As a small business owner in Canada, you can claim a number of tax deductions that benefit your bottom line at tax time. Take a comprehensive look at tax deductions that may work in your favour when you file your annual tax returns. Then, examine common tax deductions to see if you qualify.
Defining the Difference Between Small Business Tax Deductions, Write-Offs, and Tax Credits
A tax deduction and a write-off are essentially the same thing on your business tax return. Deductions lower the amount of money that the Canada Revenue Agency counts toward figuring the taxes you owe, which could lower your tax rate. For example, you earn $50,000 in taxable income for a tax year and have $10,000 of business deductions to lower your taxable income to $40,000. This lowers your tax rate from 20.5% to 15%, which saves you money if you owe a tax bill.
Nonrefundable tax credits lower the actual amount of taxes you owe to the CRA. For example, after deducting your business expenses, you owe $6,000. Then you claim a tax credit of $1,000. The credit lowers your tax bill to $5,000. Tax credits could lower your tax bill to $0 if you utilize enough of them. Both deductions and credits can lower your tax bill if you qualify.
How to Claim Small Business Deductions
To qualify for business deductions on your taxes, you must spend money for business use. Any money you spend for personal use doesn’t count. For example, you purchase a desk for the office of your business. That counts as a business expense and a deduction. However, buying a desk and putting it in your home doesn’t work for these types of deductions.
Fill out Forms T2125, T2042 or T2121 depending on your situation to claim these deductions on your tax returns.
Common Tax Deductions for Your Business
Small Business Deduction
The CRA lowers your tax rate if your business meets certain criteria for the overall small business deduction. To qualify for the small business deduction, your business must:
- Be a Canadian-based organization.
- Be a private corporation.
- Have less than $10 million in taxable capital employed in Canada.
Corporations with between $10 and $15 million in taxable capital qualify for a partial small business deduction, while businesses over the $15 million limit don’t qualify at all.
The small business deduction lowers the tax rate of your business’s taxable income. If some of your corporation’s income comes from active business carried on in other countries, you can only use the taxable income from business in Canada. In addition, there’s also a limit. If your business’s annual taxable income exceeds the limit, you can only claim the deduction on the portion under the limit. The small business limit is $500,000. Consider this example:
- Your business has $600,000 in taxable income.
- You can only apply the small business deduction to the first $500,000 of income.
- At 15%, your small business deduction would be $75,000.
Corporations face a top-line income tax rate of 38%. Most income earned in Canada qualifies for a federal tax abatement, which lowers the effective corporate income tax rate to 28%. If you qualify for the small business deduction, that again lowers your tax rate to 10%. To illustrate the effect on your corporate tax liability, consider this example:
- Your corporation has $100,000 in taxable income.
- Your corporation owes $38,000 in tax at the corporate tax rate of 38%.
- The federal tax abatement lowers your tax liability to $28,000.
- After the small business deduction, your tax bill is only $10,500.
In addition to federal tax, most corporations have to pay provincial income tax. Provincial governments usually have two rates: a higher rate and a lower rate. If you qualify for the small business deduction, you get to claim the lower rate as opposed to the higher rate.
For example, if your corporation is in Nova Scotia and you qualify for the small business deduction, you face a 3% tax rate. In contrast, the higher rate is 16%. Some provinces also set a limit on how much income you can take into account when using the lower rate. In most cases, provinces use the federal limit of $500,000, but some provinces set their own income limits. The small business deduction offers generous tax reductions for small- and medium-sized enterprises. If your corporation meets the initial criteria, you should look more closely at this deduction. It can help your business save a lot of money every year.
Common Business Expenses
The CRA allows you to claim tax deductions for all eligible business expenses. These expenses include advertising, wages paid to employees, office supplies, rent and utilities for your business space, and inventory costs. On top of those popular expenses, you can also claim deductions for accounting, legal, and professional fees incurred on behalf of your business. You can even write off half of certain entertainment and travel expenses. As a general rule of thumb, you can deduct any expenses that are necessary and usual for your industry.
Tax Deduction for Advertising
You can also deduct business expenses incurred for advertising your business in print, on TV, and through online ads. You can deduct all of the expenses when advertising in print media if your advertising is directed toward a Canadian market and the content is 80% editorial content. Otherwise, you can deduct 50% of your advertising expenses. TV stations must be Canadian-owned to claim this business expense.
Bad Debt Tax Deduction
You can claim a deduction for bad debts if you determine that an accounts receivable turned into a bad debt during a tax year. You can only claim this as a business expense if you already included the accounts receivable as income.
Taking a Deduction for Vehicle Costs
If you drive your vehicle for business reasons, you can deduct most expenses you incur from doing so, including gas, insurance, registration fees, and any necessary maintenance. The CRA gives you two options in how you deduct your vehicle costs. You can itemize all those costs and list them as deductions, or you can take the automobile allowance rate in your area for the number of kilometres you drive.
Remember that only business use of your vehicle works as a tax deduction, so keep detailed mileage logs if you have a vehicle that you drive for both personal and business reasons. If you decide to itemize your deductions, you must determine what percentage of your driving you do for business purposes. Then, deduct only that percentage of your vehicle costs. It’s often easier to go with the automobile allowance rate so you don’t have to keep track of every expense.
Meals and Entertainment Expenses
You can claim up to 50% of meal and entertainment expenses, such as tickets and entrance fees to an entertainment or sporting event, gratuities, cover charges, and room rentals for hospitality suites. You cannot claim meal and entertainment expenses if you bill clients for them later. You can claim expenses related to hosting parties for employees, but you have a limit to six of these per year.
Rent and Business Maintenance
Rent for your business building counts as a business expense for a tax deduction. You can also deduct minor repairs and maintenance performed on your business property, such as changing out light bulbs or mowing the lawn. You can’t deduct the value of your own labour, nor can you deduct any improvements that provide a long-term benefit, such as a major renovation. Expenses you incur for telephone service and utilities at your business building also count toward a deduction.
Interest on Loans
Any interest on business loans or acquired property counts as a tax deduction. You can also deduct the interest on loans made against an insurance policy, provided the insurer didn’t raise the base amount you pay for your policy.
Office expenses and supplies, such as pens, paper, stamps, and stationery, also count as business expenses you can deduct at tax time. Keep accurate records of these purchases by documenting your receipts properly.
Deduct gross salaries, wages, and employer contributions to pension plans and insurance policies. Report each salary on a T4 slip and report pension plan contributions on a T4A slip when you submit your tax return. You can deduct salaries you pay to children and a spouse as long as you keep accurate records.
Tracking Your Business Expenses
Claiming these deductions can drastically lower your tax bill. However, you must prove that you spent money on each of the deductions you claim, and they must be for business purposes.
To make it easier to track your business expenses, consider using a mobile app. When choosing an app, make sure it syncs with your accounting software. That way, you can upload everything with the tap of a finger rather than spending countless hours on manual entry.
If your business expenses are saved in your accounting software, filling out your tax return becomes a lot easier. This process helps ensure you don’t overlook any expenses and inadvertently increase your tax burden. Tracking expenses accurately lets you run an internal audit to ensure each expense complies with CRA regulations. Keeping accurate records, such as receipts and expense reports, can help prevent an audit from the agency.
Your accounting software can also let you double-check your tax return for any errors. Double-checking your tax return and your deduction calculations is a good way to catch any potential errors before filing. If you catch an error after the fact, it’s a simple process to amend your tax return.
With these elements in place, you are well on your way to turning your expenses into tax deductions. Deductions for business expenses ensure you don’t pay more than you have to in taxes. Track your deductions properly and keep verifying documentation to comply with record-keeping requirements and support any tax deductions you take. QuickBooks Online can help you maximize your tax deductions. Keep more of what you earn today.
If you provide employees with an automobile and the employee drives it for personal use, you must report the employee benefit as a standby charge as a form of income for the worker. As the employer, you receive a tax credit for allowing your employee to use the vehicle, but you must report the standby fee, along with the operating expense benefit, as income for the employee.
Rules Regarding Standby Charges
When employees only drive the car for company business and return it to your organization’s motor pool every night, you do not report any standby fee or the operating expense benefit for taxes. Employees who drive the car home at night and use it for personal business are responsible for taxes on both sources of income for their personal income taxes.
Calculating Standby Charges
The amount of the standby fee is based on several variables, so the Canada Revenue Agency provides a standby tax calculator for vehicle benefits. The amount of the standby charge may change based on the year of the vehicle, the province or territory where the driving occurs, how many kilometres the employee drives the car, and how many days the employee uses the vehicle.
Depending on the value of the vehicle and how much the employee drives it, your company car could be more of an employee liability than a benefit. You want to encourage good record keeping from employees who use a car you supply. Therefore, you must know the number of kilometres the employee drives the company car for personal use to calculate the standby fee.
If employees reimburse the company for some of the operating expenses of the vehicle, it reduces their tax liability for the income. Reimbursements from an employee for use of the car also reduce the standby charges you include in your employee’s income.
While providing an employee with a company car is often beneficial, it can increase the paperwork you must complete and file as part of the employee’s income. Allowing the employee access to the vehicle for personal use requires accurate record keeping to meet government requirements at tax time.
Does Your Corporation Qualify for Small Business Deductions?
If you run a Canadian-owned corporation, the small business deduction is one of the most beneficial income tax deductions available to your company. This deduction reduces the amount of Part 1 tax your company needs to pay.
Does Your Company Qualify for the Small Business Deduction?
To qualify for the small business deduction, your company must be a Canadian-controlled private corporation (CCPC). To be a CCPC, your company needs to meet all of the following conditions, according to Chapter 1 of the T4012 – T2 Corporation Income Tax Guide:
- It’s a private corporation
- It was resident in Canada and was either incorporated in Canada or resident in Canada between June 18, 1971 and the end of the most recent tax year
- 100% of your capital stock shares are not listed on a designated stock exchange
In addition, to qualify for the small business deduction, your small business cannot be controlled directly or indirectly by:
- One or more non-resident people
- One or more public corporations (other than a prescribed venture capital corporation, as defined in Regulation 6700)
- A Canadian resident corporation that lists its shares on a designated stock exchange outside Canada
- Any combination of persons or corporations listed above
If your company fails to meet any one of the above criteria, then you cannot claim CCPC status.
Are There Limits for Taxable Capital Size on the Small Business Deduction?
The small business deduction in Canada also comes with taxable capital limits. If your business qualifies as a CCPC, and you have taxable capital of $15 million or more, you don’t qualify for the deduction.
If your CCPC’s taxable capital is between $10 million and $15 million in the previous tax year, you may be eligible for the small business deduction. However, your business limit is reduced on a straight-line basis.
Is your CCPC a member of an associated group? If the group’s taxable capital employed in Canada is more than $10 million, you’re also subject to a reduced business limit.
QuickBooks makes tracking expenses, income, and mileage logs easier. Just input kilometres in the employee’s record on the software, or add notes in the payroll portion of the program to make aggregating this information simpler, because all of the information is in one place.