In an increasingly globalized world where multinational corporations are at every corner of the globe and possessing gross domestic products greater than many countries, you have to simply wonder how on earth small medium businesses can even hope to survive; especially in this post-recession era. As a small business owner myself I understand the challenges and realize that we all need to exhaust every resource available to us in order to survive. I love a good David versus Goliath story, and I want to equip all the small business owners out there through my knowledge of tax reduction strategies so that one day they can take down their own Goliath.
The information is primarily intended for Canadians, but the section regarding writing off business expenses is also applicable to Americans since the U.S. Internal Revenue Service (IRS) and Canada Revenue Service (CRA) share similar lists.
For small businesses in Canada, the Canadian government, as part of their Economic Action Plan, has provided many tax incentives, credits, and deductions that provide much needed relief. Let’s have a look at some of these simple tax tips reduction strategies:
Writing off business expenses
Claiming business expenses is a simple and easy way to maximize profits while minimizing the taxes that are paid. You can claim any business expense as long as it is deemed reasonable; meaning that the expense has to be directly related to your business as a means to generate income. This list is quite extensive but here are some common business expenses that are tax deductible:
- Home-office expenses: mortgage interest, utilities, property taxes, repairs & maintenance, home insurance
- Car expenses (business uses only): capital cost allowance (depreciation), fuel & oil, insurance, lease payments, parking, repairs & maintenance, toll charges, vehicle registration fees.
- Capital asset depreciation: building (4% year), furniture & fixtures (20% year), software (55% year), computer and peripheral equipments (100% year), vehicles (30% year).
- Additional expenses: accounting and tax preparation costs, advertising, internet, inventory purchases, lease payments, legal feels, meals & entertainments (50% only), rent, salary & wages, sub-contractors, supplies, telephone, tools, website charges, other business related purchases
- Convention-related expenses: These expenses include the cost of the convention, travel costs to go to the convention including airfare, hotel fees, and food. Now, food is subject to a 50% limitation, such that only 50% of the food cost can be claimed as an expense while attending the convention. A maximum of two conventions can be claimed per year and in order for the convention expenses to be deductible it must relate to your business. For example, if you are an IT consultant then attending a conference on technology at a convention in Las Vegas would classify as being relevant to your business, but attending a dental conference if you are an IT consultant obviously wouldn’t. Finally, the convention expenses must be reasonable in nature. So if you have an option to stay at a three star hotel but you choose to stay at a seven star the CRA may disallow the excessive portion.
Canadian Controlled Private Corporation (CCPC) and the Small Business Deduction (SBD)
A small business owner can incorporate their company in order to be classified as a Canadian controlled private corporation. The advantage is that a CCPC is eligible for the small business deduction which allows for the first $500,000 of operating profit to be taxed at the much lower corporate tax of only 15.5%.
You can further supplement this by paying yourself a dividend which is taxed at a lower rate than paying yourself salary. For more information regarding this topic please see this article on salary versus dividends.
Add Lower Income Spouse As Shareholder:
Adding your spouse to your existing corporation as a shareholder can help reduce taxes. As a shareholder of your company your spouse can receive up to $40,000 in dividends, tax free, per year, from your company, provided that your spouse does not have any other source of income.
Even if your spouse is working and is earning significantly less than you are through your business, it’s still advantageous to pay dividends to your spouse, because you will reduce your family’s overall tax burden. This is because you are in a higher tax bracket and your spouse is in a lower tax bracket.
In expanding on this point, it is also possible to further multiply the small business deduction (see above) so that an additional $500,000 is taxed at the low 15.5%. In order to do this, the spouse of the owner will incorporate a company where he or she owns one hundred percent of the shares, therefore in this scenario the combined small business deduction limit is one million dollar.
Declare a Bonus
By having your corporation declare bonus at the year end, there are two main advantages. Number one, your corporation can claim a tax deduction for the bonus payable without even paying it. Number two, you do not have to include the bonus payable in your personal income.
There is one catch. Within 180 days or six months the corporation must pay the bonus to you. For example, if your corporation has a December 31st year end, then it must pay the bonus by June 30th of the following year, at which point you will include the bonus received in your income.
Charitable Donations Tax Credit: Donating to charities is not only good for your conscious but also for your wallet. Corporations that make donations to registered charities can write-off the entire amount of the donation as an expense as long as the corporation is profitable.
Hiring Credit for Small Businesses (HCSB): The HCSB provides small businesses with a credit of up to a $1000 based on the increase in an employer’s employment insurance premiums paid in one year over those paid in the year before.