The entrepreneurial journey is one of challenges, opportunities, and endless learning. Often lost in the myriad of tasks, research, and decisions, however, are vital tax issues, like how much entrepreneurs pay in taxes and how taxes affect entrepreneurs in Canada.
Fortunately, Canadian tax policies offer substantial support and incentives to entrepreneurs and business owners – if you know how to take advantage of them. As an entrepreneur, especially of a startup, every dollar you make and save is vital to your success. Start your business off on the right foot and consult one of the best tax accountants in southern Ontario. They can provide you with even more tax tips for your business.
Choosing the Right Business Structure for Your Entrepreneurial Venture
One pivotal decision every Canadian entrepreneur faces is determining the business structure that will best serve their needs. The choice can significantly influence how much entrepreneurs pay in taxes, their personal liability, and their ability to raise capital. Here’s a quick look at the most common business structures and some of the associated pros and cons:
- It’s the easiest and least expensive business structure to establish.
- Direct Control. The owner has complete authority over all decisions.
- Tax Benefits. Business losses can be deducted from personal income, which can be beneficial in the startup phase.
- Personal Liability. The owner is personally responsible for all debts and obligations.
- Potential Tax Burden. As the business grows, the owner might find themselves in a higher personal tax bracket.
- Shared Responsibility. Partners can share the responsibilities and pool their skills and resources.
- Simple Returns. Like a sole proprietorship, partners either add income or deduct losses from the business on their personal tax returns.
- Joint Liability. Like sole proprietorships, partners are personally liable for the business’s debts.
- Potential for conflicts if partners don’t see eye-to-eye or if there’s no clear partnership agreement.
- Limited Liability. Shareholders (owners) are not personally liable for corporate debts or liabilities.
- Tax Advantages. Corporations generally have lower tax rates.
- It’s often easier for corporations to raise capital through the sale of shares.
- Incorporating requires legal documentation and is more expensive than setting up a sole proprietorship or partnership.
- Double Taxation. Income earned by a corporation and then distributed to shareholders as dividends is taxed twice.
- Regulatory Scrutiny. Corporations face more regulations and are under greater governmental oversight.
This is just a brief overview. There are many other advantages, disadvantages, and considerations that must be taken into account. Before you set up your business, it’s always a good idea to speak with a CPA who is an expert in taxation for self-employed contractors and business owners. They can advise on the best structure for your business based on your industry, operations, and goals and help you with strategic tax planning.
Understanding the Basics: How Much Do Entrepreneurs Pay in Taxes?
One thing common to all taxpayers is that they must know their basic tax rate in Canada. For individuals, the tax rate is a sliding scale base on income. For business owners, the rate also varies depending on your business structure — i.e., sole proprietorship, partnership, or corporation.
- Sole Proprietorship & Partnership: As a sole proprietor or a partner, your business income gets taxed at your personal tax rate. The more you earn, the higher your tax rate can go.
- Corporation: Corporations are taxed at a corporate rate. While it’s generally lower than personal tax rates, there are added complexities to filing a corporate return and paying corporate taxes.
Leveraging Business Expenses as an Entrepreneur to Reduce Your Taxes
One of the most significant effects of entrepreneurship on taxation is the ability to deduct reasonable business expenses. This means that, as an entrepreneur, not all your income is subject to tax as it is for individuals, and you can subtract valid business expenses from your revenues. Common deductions include:
- Rent or home office expenses
- Equipment and machinery
- Service fees for professionals like lawyers and accountants
- Marketing and advertising
- Travel related to business
- Employee salaries and benefits
An essential tip here is to know precisely which expenses you can deduct and how to properly deduct them. For example, if you are deducting energy costs for a home business, you can only deduct an amount proportional to the size of your office relative to your home.
Another crucial tip regarding business expenses is to always maintain a meticulous record of all your expenses. It not only helps you accurately keep your books, but precise records are essential to support your tax returns in case of an audit or query by the Canada Revenue Agency (CRA).
Utilize Tax Credits To Reduce Your Taxes as an Entrepreneur
There are numerous federal and provincial tax credits that can be used to reduce your taxable income or, in the case of refundable tax credits, generate a refund if your eligible tax credits total more than your taxes owing. These are a few examples of the types of credits available to businesses:
- Input Tax Credits. If your business is required to register for, charge, and remit GST/HST, then you can begin claiming the GST/HST you pay on eligible business expenses.
- Investment Tax Credits (ITCs). To promote growth in targeted regions and industries in Canada, federal, provincial and territorial governments provide tax credits for identified purchases, investments, and expenses based on industry and/or location. *Pro tip for entrepreneurs: Use your knowledge of ITCs applicable to your business to entice potential investors if you need investment.
- Scientific Research & Experimental Development (SR&ED). The Canadian government encourages scientific and technical innovation by allowing businesses engaged in eligible R&D to both claim a deduction against their income, and earn an investment tax credit.
- Apprenticeship Job Creation Tax Credit. If you hire an eligible apprentice, this non-refundable ITC can cover a percentage of their salary.
Stay up-to-date on tax credits and incentives related to your business as new ones are introduced, and old ones change regularly.
Set Money Aside for Tax Season
One of the primary ways taxes affect entrepreneurs is the potential financial strain during tax season. Unlike salaried employees, entrepreneurs don’t have taxes automatically deducted from their pay. This makes it crucial to set money aside throughout the year to avoid a last-minute fiscal crunch. Keep a separate business account for this purpose, make it almost inaccessible, and forget it exists.
Be Mindful of Deadlines
Missing tax deadlines can lead to unnecessary penalties. It’s essential to mark these dates on your calendar:
- April 30: Personal tax returns are due.
- June 15: If you have self-employed income, this is your deadline. But remember, any tax owed is still due by April 30.
- Varies for Corporations: Corporations have six months from the end of their fiscal year to file taxes.
Consult a Tax Professional
While it’s tempting to navigate Canadian business taxation on your own, especially for entrepreneurs who wear many hats, consulting a tax professional is an investment that pays for itself with professional tax planning that saves you money. Also, they know precisely how much an entrepreneur must pay in taxes and how to file them properly, which keeps you out of hot water with the CRA.
A qualified CPA can also save you money on penalties and interest in the unfortunate scenario that you need tax audit representation. As importantly, a CPA can keep you from getting into further trouble with the CRA during the audit by speaking on your behalf.
Tax rules and regulations evolve. Staying updated ensures compliance and can unveil new opportunities for savings. Make it a habit to review any changes to the taxation landscape annually. Not being current on CRA tax rules is one of the most common tax mistakes entrepreneurs must avoid.
The Bottom Line on Tax Tips for Entrepreneurs in Canada
Understanding taxes is a cornerstone for entrepreneurial success in Canada. By proactively managing and planning, you can mitigate financial challenges and focus on growing your venture. Remember, when in doubt, seek expert advice.