It’s not uncommon for small business owners to worry about business taxes, and no one wants to pay more than necessary. Of course your tax should rise if your profits are increasing year on year (which is a good thing), but you can minimize the tax you pay by making sure you claim everything you can as an expense, and a few other tricks.
Use the tips below to reduce your business tax in your first year of business.
1. Get organized
The first order of business is to get organized. You can’t claim as an expense what you can’t remember or document. The Canada Revenue Agency (CRA) may disallow deductions if you can’t support them.
Keep detailed records of everything
If you’re super organized and track every business expense, you’ll never miss claiming an expense – and as a result, you’ll pay less tax. Keep every receipt and record of note.
- Keep a record for expenses split between business and personal – for example, if you’re claiming for a vehicle you must keep a journal to show the percentage of the vehicle’s business use.
- File everything in logical order; every receipt, invoice or proof of purchase (even for cups of coffee purchased for a business meeting).
- Leverage technology – accounting software will track every expense and make sure you never forget to claim an expense.
2. Set up a work area at home
Set up a room in your house as your office, using it specifically for your business (even if your main business is located elsewhere). You can claim a portion of expenses related to the business use within your home, and let’s be honest, chances are you do some work from home in the evenings and weekends. Examples of potential partial deductions include:
- Maintenance costs (like heating, electricity, home insurance and cleaning supplies).
- Mortgage interest.
- Property taxes.
To calculate the portion that you can deduct, use a reasonable basis such as the area of the work space divided by the total area of your home. If you use the space for personal use or run the business part time, you’ll need to reduce your claim accordingly.
According to CRA, you’ll need to meet one of the following conditions in order to deduct expenses for the business use of a work space in your home:
- It is your principal place of business; or
- You use the space only to earn your business income, and you use it on a regular and ongoing basis to meet your clients, customers, or patients.
3. Split your income
Consider allocating some of your business’ income to your life partner. You might actually be discussing your business with your significant other all the time anyway, so pay your life partner a small salary if you can take advantage of a lower tax rate. In Canada, the more you make, the more you pay so dividing your incomes might be a sound strategy. Check with your accountant or advisor to double check it’s allowed.
4. Maximize your Registered Retirement Savings Plan (RRSP) contributions
According to CRA, deductible RRSP contributions can be used to reduce your tax. Not only will you receive a tax deduction for your contributions, the money in your RRSP account will grow tax-free as long as the funds remain in the plan. You will, however, have to pay tax when you receive payments from the plan.
5. You may be able deduct premiums paid or payable to a private health services plan (PHSP)
If your business is unincorporated, that is if you are a self-employed individual or in a partnership, you may be able to deduct your PHSP premiums. You must be actively engaged in the business on a regular and continuous basis and meet specific income requirements. Check with the CRA or your tax advisor to see if you are eligible.
6. Take advantage of the end of the year
The end of the year is a good time to adjust parts of your business to reduce net profit legitimately. If you can claim or adjust your business income or expenses to lower your net profit, then your tax owed will reduce accordingly. Below are a few examples:
- Buy any fixed assets just before the end of your financial year (not just after) as you will be able to claim a portion of depreciation straight away (which lowers your net profit).
- Revalue your assets. If you have an asset (such as a computer or old equipment) that has a book value on your accounts, but is actually worth much less, then slash its value (as long as it’s true). Your net profit will then be reduced as you increase your depreciation claimed on this asset.
- Delete any assets that are no longer in use or have zero value. This is similar to reducing the value, but this time the asset will be scrapped. The remaining book value will be reduced to zero, and whatever was left becomes ‘loss on sale of asset’ which will reduce your net profit.
- Consider having an end-of-year sale to clear out old stock and reduce your cost of goods sold. Even if you make a loss on some stock, it’s better to have it cleared out anyway. Not only will you convert old stock to cash, but you will be removing the value of the old stock off your books.
- If there is a debt owed to you, and you think you will never see the money ever again, then you could write it off. In the past year when you counted this as revenue, you would have paid tax on it (as the CRA assumed you would get it one day). If that is no longer the case, write it off (which will lower this year’s profit).
- Did you receive any income in advance? For example, if you were paid for work that you don’t need to do until the next financial year, you don’t have to count it in the current year’s sales (it gets counted in the following year). It does catch up, but just not in the current tax year.
7. File your returns on time
This seems obvious, but filing on time will mean you’ll avoid any penalties or interest. The filing and payment deadlines vary depending on your business type, so make sure to check the CRA website to find out when you must file your returns.
8. Finally, try and avoid an audit!
The CRA have the right to audit your business to double check that the profit that you are declaring (and therefore paying tax on) is correct. If you underestimate profit, they can penalize you. If you claim business expenses but have failed to keep receipts to support your claim, they’ll disallow those deductions. If you have poor records, missing invoices and receipts, then they could ask to go through everything with a fine tooth comb — stress and time spent you don’t need.
On the other hand, if you have great records using accounting software that tracks everything and links to your bank statements, then the CRA will be better assured that everything is accurate. Accounting software won’t prevent an audit, but it could help avoid raising audit-triggering red flags as well as make the audit less painful.
- To be clear about what taxes you need to pay, see the Canada Revenue Agency checklist for small businesses.
- Talk to your accountant or business adviser as soon as you can about all of these ideas; every business is different and for tax advice, you need to talk to a qualified professional who understands your business.
- If you are using a manual system for tracking sales and expenses, it could be time to upgrade to accounting software to remove the guess work. Click below to learn more about Sage 50cloud accounting to see how it can help track expenses and file your taxes properly.
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