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THE SMALL BUSINESS DEDUCTION IN CANADA

Interested in how the small business deduction in Canada can save you money through a special tax rate? If so, we’re here to help!

 

Are you making the most of your small business deduction?

As an owner of a small business in Canada, you may or may not have heard of the small business deduction available to you. You have worked hard to grow, and already know that making the most of every dollar is crucial to your survival. However, what you may not know is this: “How does this deduction help me save money?”

If you do own and operate your company, then it is very important you read this article. In it, I will show you how you can utilize this great tool to save a lot in taxes and use those savings to bring you towards your goals.

WHAT IS THE SMALL BUSINESS DEDUCTION CANADA?

The small business deduction (SBD) is a credit available to specific kinds of companies in Canada. It is performed on active income and reduces the general corporate taxation percentage from 26.5% to only 15.5%. The limit for this reduction is $500,000 in profit (that is, revenue minus expenses), which represents a significant amount in savings. To stay current on the latest corporation rates, please visit the CRA’s website (Corporation Taxes).

WHICH COMPANIES QUALIFY?

After seeing how much it can save you, I hope I have you interested in this special tax rate. Next, we are going to look at what varieties of Canadian companies qualify for the deduction.

In order to be eligible, your company must be a Canadian Controlled Private Corporation (CCPC). Are you not currently incorporated but are thinking of doing so? Please visit our resource on the subject (Allan Madan’s Personal Tax Tips) to find out more. A CCPC has the following characteristics:

  •   Incorporated in Canada;
  •   More than 50% of the voting share capital of the corporation must be owned by Canadian residents;
  •   Is not listed on a stock exchange.

As the allowance is directed to smaller organizations, your company cannot have a capital size of over $15 million dollars. If your company has a taxable capital of $10 million and $15 million dollars in active income during the previous year, you are still eligible but your limit will be reduced. For more information on CCPC qualification, please visit TurboTax (do I qualify for a small business deduction?).

WHAT ARE THE TYPES OF INCOME THAT APPLY?

Now that you have determined you are a CCPC, the next matter is the types of income that qualify. The type of earnings your company earns must be Active Business Income in order to receive the SBD. This means income earned from a business excluding investment income and capital gains.

HOW DO I TAKE ADVANTAGE OF THIS TOOL?

Now you know what types of corporations and earnings qualify for the small business deduction; the final topic of discussion is how to take full advantage of it. To do this, ask your accountant to prepare Corporate Income Tax Return and claim the small business tax rate on the return. If you would like to do this yourself, please visit our resource (How Can I Prepare an Income Tax return for my Corporation?) Should your corporation earn both investment and active business gains, a separate calculation must be performed on Federal Schedule 7 of the Corporate Income Tax Return to calculate the proper percentage.

Assuming that your corporation makes more than $500,000 in profit, the excess profit above that limit will be levied with a percentage of 26.5%. Therefore, it is best to declare a bonus payable to yourself to reduce the corporation’s profit to $500,000 or less. However, when making the bonus, be sure to pay it within 180 days of your corporation’s year end. If you do not, the bonus will not be tax deductible

GOING FURTHER WITH THE SBD

Maximizing your SBD savings can be almost as easy as a game of  tic-tac-toe!

If you are in a partnership, there is an additional way to make the most of your CCPC savings. Let us say that you are a couple that owns two CCPC’s. If you both own one of the companies with no co-ownership (meaning that you do not own shares in your partner’s company and vice-versa), you can allocate $500,000 to each company. If you and your partner own the two companies together, then you only get $500,000 to split between the companies. The Canada Revenue Agency does this to prevent people from owning multiple companies and unfairly receiving a reduction on all of them.

To further illustrate this concept, let’s look at an example. Jack and Dianne are married, and they own two CCPC’s. If Jack owns 100% of his corporation and Diane owns 100% of hers, then they both get to pay a lower rate on up to $500,000 of their business’s active income. However, if Jack owns some of Dianne’s company and vice-versa, the Canada Revenue Agency only gives them $500,000 jointly to split between their companies. The following info-graphic illustrates the concept further.

Making the most of SBD

Another key issue facing business owners in Canada today is whether to pay themselves salary or dividends. Would you like to know more? Please visit our resource (Should I pay myself salary or dividends as a business owner?)

Another thing to consider when opening CCPC’s is the differences in provincial tax rates. Although the federal portion of the corporation tax remains the same throughout Canada, the provincial percentage is different for each province. In Alberta, a CCPC will have its limit taxed at a lower rate than in Ontario (14% vs. Ontario’s 15.5%). This will allow the Albertan CCPC to save more because there are paying less tax. For a full list of provinces and their tax rates on corporations, please visit KPMG’s resource on federal and provincial tax rates.





About the Author – Allan Madan

Allan Madan is a CPA, CA and the founder of Madan Chartered Accountant Professional Corporation . Allan provides valuable tax planning, accounting and income tax preparation services in the Greater Toronto Area.

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THE SMALL BUSINESS DEDUCTION IN CANADA was last modified: November 18th, 2014 by superAmin
This entry was posted in Corporate and business tax and tagged , , , , , , , . Bookmark the permalink.

About the author

is a Chartered Accountant, CPA and Tax Expert and enjoys working with business owners, individuals and entrepreneurs.

Disclaimer

The information provided on this page is intended to provide general information. The information does not take into account your personal situation and is not intended to be used without consultation from accounting and financial professionals. Allan Madan and Madan Chartered Accountant will not be held liable for any problems that arise from the usage of the information provided on this page.

32 Responses to THE SMALL BUSINESS DEDUCTION IN CANADA

  1. John Snow says:

    Recently, I converted my profitable business from a partnership to a CCPC. Are there any other benefits I can now enjoy besides the SBD? Are there any ways I can minimize my personal taxes?

    • amadan says:

      Hello and thank you for your question.

      Besides the small business deduction that I spoke about in the article above, you can also take advantage of the Capital Gains Exemption. This an allowance for the first $750,000 of Capital Gains to be received without being taxed as regular income tax. This, in turn, encourages people to buy shares of your company.

      If you do not want to pay any personal tax, try to minimize the amount of funds you are taking out of the corporation. If you are taking more funds out than is need to run the business, you may be jeopardizing your ability to claim the exemption. For shares to qualify for the exemption, the corporation must have at least 90% of the market value of its assets invested to earn business income.

  2. El Rey Santiago says:

    Hi Allan, if I invest excess funds made by my corporation, will the investment income earned be taxed at the full rate or the small business deduction rate?

    • amadan says:

      Hello. If you invest the excess funds made by your corporation, any income earned will be taxed at the full corporate tax rate. This tax rate may be higher than the personal marginal tax rates of the shareholders. If so, you will want to increase shareholder income. This will prevent the lower tax bracket of these shareholders from being “wasted”. A shareholder’s income can be increased if the corporation pays them more dividends.

      No tax savings from the small business deduction applies because investment income is not considered to be “earned” from operating a business. Only “active business income” applies for the deduction.

      Regards, Allan Madan and Team

  3. AbedAb says:

    I have a business that has been gaining substantial profit as the years increase. It is nearing the $500,000 mark in terms of yearly profits, and it is projected to surpass that within the next tax year. It will not be much more than $500,000 within the next tax year, so I would still be considered a small business. Are there any other ways aside from claiming a bonus to myself that I can offset some of the profits so that the business’ final profit is below $500,000?

    • amadan says:

      Aside from bonus, you could consider:

      · Purchasing capital equipments which will provide you with CCA (tax depreciation) expense

      · Accruing your accountant’s fee for the preparation of financial statements and tax return for that year

      · If your business’s year end is December 31, you can consider making your January expenses in December. For example, supplies or travel expenses you’ll incur in January, you can consider making in December.

  4. Daniel Ryan Marsh says:

    Hello Allan,

    My company is a CCPC. What is the maximum allowable business limit if my company is associated with other corporations? We have more than $10 million in taxable capital employed in Canada. Also, how do I calculate the rate if my corporation tax year spans multiple years?

    • superAmin says:

      Daniel,

      Since your corporation is associated with others, you need to file the Schedule 23. Then, you assign a percentage of the business limit to each corporation. Since your corporation has more than $10 million of taxable capital employed in Canada, your corporation may have a reduced limit. If your corporation’s tax year covers months in two different calendar years, the rate is prorated based on the number of days in each calendar year.

      Regards,
      Allan Madan and Team

  5. Fionna says:

    My husband and I have two small businesses but we each own one business so that we can cash in on the small business deduction. We are looking to start an additional small business but are unsure whether we should have co-ownership or if one of us should fully own it. What is the best route to take if one of us did not surpass the $500,000 deduction limit but the other one did?

    • superAmin says:

      If the new business was split between the two of you then the $500,000 deduction limit would also be split between the two of you. As such, it wouldn’t do you much good to have co-ownership of the business. The person who has not surpassed the $500,000 deduction limit should take full ownership. Keep in mind that if one person has two or more CCPCs associated with one another in a taxation year, the small business deduction must be shared between the two.

  6. Braden Johnson says:

    Hello, this will be the first tax year where my small company is a Canada-Controlled private corporation. I am still a little confused about how I can take advantage of the Small Business Deduction. Where and how do I file for it on my next tax return?

    • superAmin says:

      Hi, basically the Small Business Deduction (SBD) reduces Part 1 tax that your corporation would normally pay for. The SBD rate is 17%. The SBD is calculated by multiplying the 17% SBD rate by the smallest amount in the categories listed below:

      • Line 400 – the income from active business carried on in Canada. Generally, income from specified investment business or personal service business are not considered active business and will not be eligible for the SBD.
      • Line 405 – Taxable income for the SBD.
      • Line 410 – Business Limit. On this line, you must enter the business limit for the year, which cannot exceed $500,000 and cannot be associated with any other corporation.
      • Line 425 – Reduced business deduction. Please note that CCPC’s that have taxable employed in Canada that exceeds $15 million or more do not qualify for the SBD.

      Once you multiply the least amount of the above categories with the SBD rate and enter it on Line 430. You also must put that number on Line 1 of page 7 of the return.

  7. Julian Wright says:

    Hi, I am thinking of incorporating my business so I can take advantage of the small business deduction. I was wondering what the disadvantages of incorporating a business too soon so I can make a decision whether to incorporate my business now or wait until it grows larger.

    • superAmin says:

      Hi Julian, the first disadvantage is that incorporating a business is the most complicated business structure. It is very important to plan who your shareholders are and how your shares will be divided. The second disadvantage is that you cannot right off business losses against other income of the shareholders. The third disadvantage is there is more administrative work for incorporated business. This includes annual reports filed with the corporate registry along with corporate tax returns, which are separate from personal tax returns. The fourth disadvantage is that it is very costly to incorporate a business.

      Consider your options carefully when trying to incorporate your business and always contact your lawyer and accountant to avoid serious setbacks.

  8. Rex Walsh says:

    I just realized I forgot to pay the CPP and EI for my business! I am only a day late though, so is it possible to file them today and not face any penalties?

    • superAmin says:

      Hi Rex, unfortunately you will have to pay a penalty, but it’s not as big as it used to be. Prior to July 2003, failure to pay CPP and EI for you employees resulted in a 10% penalty of the amount not remitted for each occurrence.

      After June 2003, there was a new system that the government introduced for assessing penalties for late payments of employee deductions. If you are late by three days or less, a penalty of 3% will apply. If you are four or five days late, the penalty will be 5%. Six or seven days late will result in a 7% penalty. The penalty will reach 10% when you get past the eight-day mark.

      It may be obvious, but even though the penalty is a lot small than it was before, you should always remit your employee deductions on time to save you the most money.

  9. Darrell Abbott says:

    Hi, I own and operate a very small unincorporated business. Am I allowed to deduct health and dental premiums for myself as a business expense?

    • superAmin says:

      Hello Darrell, yes you are allowed to deduct health and dental premiums for yourself as a business expense on form T2125. However, you need to follow a few rules before you can be considered for the deductions. The first restriction is that you need to be actively involved in the business. The business also has to be your primary source of income in the current year, or income from other sources does not exceed $10,000.

      Another restriction for deducting health and dental premiums is that you need to offer equivalent coverage to all permanent full-time employees, who are not blood related to you. Please note that the maximum deduction allowed is $1,500 for each of you and your spouse and $750 for each child.

      Lastly, you will not be eligible to claim a medical expense tax credit if you deduct the premiums paid as a business expense. Although the rules can be complicated to understand, the benefits can be significant. If you need any more information, contact me directly and I can help you plan out how to set up your health and dental premiums.

      Allan and his team

  10. Bryon says:

    Hello, I entertained some clients at a golf course today. I know I am not allowed to deduct the round of golf, but am I allowed to deduct the meal we had after our round at the course?

    • superAmin says:

      Hi Bryon, normally you would be able to deduct 50% off the meal, even if you went to a golf course for the meal. Unfortunately, since you did play golf and eat at the club on the same day, you will not be able to deduct any of the costs you paid during the day.

  11. Cody says:

    Hi Allan, I own a Canadian-controlled private corporation. Last year my profits were around $300,000, so I was able to only pay 15% for the income tax rate. This year, it seems like my profits will exceed $500,000. Will I have to pay the 28% income tax rate on the full profits since I am making over the limit that allowed me to pay only 15%?

    • superAmin says:

      Hello Cody, you will not have to pay the 28% income tax rate on your full profits. You will, however, will have to pay it on some of your profits. Let’s say that you make $700,000 in the year. You will pay the 15% income tax rate on the first $500,000, then you will pay the 28% income tax rate on the remaining $200,000.

  12. Christine says:

    Hi Allan, I have been notified that I qualify for the “Quick Method” of accounting. The problem is, I have no idea what this means. Something called Quick Method sounds too good to be true. Will I be hit with hidden tax? Or is this actually a good way to do my accounting?

    • superAmin says:

      Hello, the Quick Method of accounting is actually a great way to do your accounting as it is a simple way to calculate and remit GST. It can also reduce the tax you pay on your return. When you implement the Quick Method, all you need to do is collect the GST on your taxable sales and then remit to the government 1.8% or 3.6% (the 3.6% is for service business while the 1.8% is for retailers and wholesalers) of the total sales including GST. With this method, you do not calculate or obtain input tax credits on normal business expenses. These input tax credits are replaced with the portion of the 5% sales tax not remitted to the GST office.

      Keep in mind the 1% reduction in both rates on your first $30,000 of sales. They offer an incentive to use this method; for the first $30,000 of sales the rates are only 2.6% and 0.8%. Once your sales, including GST, go over the $30,000 mark, you must start remitting based on 3.6% or 1.8% as appropriate in your case.

  13. Tyler says:

    I am looking for information on how to apply my business’s after-tax/dividend distribution to my books.

    • superAmin says:

      Hi Tyler,

      Dividends paid are classified as an ‘equity account’ and reduce retained earnings. On your books, setup a Cash Dividends account in the equity section of the balance sheet. The debit will be posted to the Cash Dividends Account and the credit will be posted to the Cash (bank) account.

      Thanks,

      Allan Madan

  14. Jakub says:

    Hi, this is my first year owning an incorporated business. The last few years, the business was not incorporated and fairly small, so I did the taxes by myself with tax software. Now that the business is incorporated and a lot bigger than it was, will I still be able to use the tax software to maximize the deductions I can claim, or would it be a better investment to hire an accountant to help me out?

    • superAmin says:

      Hello Jakub, it really depends on how big and complex your business is. In your case, it seems that you may want to start looking for professional help. This will end up helping you in the long run, because a professional accountant will be able to find more deductions for your business. You might get overwhelmed trying to both do your taxes and run your business at the same time, and it might end up costing you some mistakes in your business, your tax return, or both.

  15. Chris says:

    Hi Allan, I have a full time job and earn $62k/year. I’m presently accumulating shares of a mining company and have unfortunately maximized my TFSA room. I wish to continue expanding my portfolio however I’m concerned about the tax liabilities if I trade under a cash (non registered) account since the capital gain will be considered as earned income. I wish to explore the corporation route and trade stocks under a corporation to minimize the tax burden and eventually pay myself dividend as I understand the tax liabilities are minimal for the first $40k/year.

    • superAmin says:

      ​Hi Chris,

      It was nice speaking with you today. Capital gains inside a corporation will be taxed at the highest marginal rate. This is to discourage investors from incorporating in order to obtain the small business tax rate on investment income.

      • Chris says:

        Hi Allan,

        Thanks for your time and expertise,much appreciated! My long term goal is to purchase income producing properties and eventually launch my real estate investment company. I understand there is a way to defer capital gain by reinvesting the proceeds. Can I purchase stocks under a non-registered account and defer capital gain provided I reinvest it by purchasing an investment property? Should I incorporate now and trade under my corporation to achieve this?

        Thanks again Allan

        • superAmin says:

          ​Unfortunately, tax deferral is not available. If you are flipping properties for profit, then buying inside a corporation makes sense in order to pay the low corporate tax rate of 15.5% on business income. However, rental income earned inside a corporation is taxed at approximately 48% in the province of Ontario.

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