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Tax Implications of Shareholder Loans

Tax implications of Shareholder Loan

The Canadian Income Tax Act contains numerous provisions relating to the tax treatment of shareholder loans, many of which are designed to prevent their abuse by shareholders. But, what is a shareholder’s loan, how are they used and what are their tax implications? 

What is a shareholder’s loan?

Your shareholder loan account is made up of all capital that you contribute to the corporation and all purchases made on behalf of the corporation (using personal funds or personal credit cards) netted against cash withdrawals and personal expenses paid by the company on your behalf.

  • Owner cash withdrawal: An owner withdrawing money from a corporation is the most basic shareholder loan. If the withdrawal is not designated as a dividend or a salary, it creates a loan from the corporation to the shareholder. Accountants call this a “due from shareholder” transaction because the loan amount is due from the shareholder to the company.
  • Purchase of a personal item with company funds: Another version of an owner withdrawal is when a shareholder purchases a personal (non-business) item using company funds. The purchase would be recorded as a loan from the company to the shareholder and the funds need to be repaid.
  • Owner cash contribution: Sometimes a shareholder of a company deposits personal funds into the company to cover expenses. Essentially the shareholder has loaned the company cash and the company needs to pay it back. An accountant would call this a “due to shareholder” transaction because the amount loaned to the company is now due back to the shareholder.
  • Pay for business expenses with personal funds: Another common version of an owner contribution is when company expenses are paid with personal funds (usually a credit card) of the shareholder. The purchase is recorded as a loan to the company. The shareholder expects to be reimbursed for this legitimate expense.

What are the benefits of a shareholder loan?

One of the benefits of a shareholder loan is the ability to withdraw funds from the corporation without triggering a tax liability. If a shareholder loan is repaid within one year from the end of the taxation year of the corporation (the taxation year in which the loan was made) it will not be included in the income of the borrower. This creates planning opportunities but it also creates opportunities and incentives for shareholders to abuse the rules. Therefore, the Income Tax Act will, by default, include the principal loan amount of any shareholder loan into the taxpayer’s income. It’s imperative that your loan meets certain conditions to avoid costly or unintended tax consequences. 

Understanding shareholder loan conditions:

The following are common scenarios regarding shareholder loans and the conditions required: 

  • The shareholder loan was made to you or your spouse to buy a home to inhabit, you received the loan in your capacity as an employee of the corporation and bona fide arrangements are met. As an employee of the corporation, you must be actively involved in the operations and not merely a passive shareholder. A bona fide arrangement requires that the loan repayment terms and the interest rate charged is reasonable and would reflect terms similar to a contract entered into between two parties in normal business practice. 
  • The shareholder loan was made to you to acquire a motor vehicle to be used for the business’s operations. You received the loan in your capacity as an employee of the corporation and bona fide arrangements are met. The loan cannot be part of a series of loans and repayments and the loan must include interest charged at the prescribed rate.
  • The shareholder loan was repaid within one year after the taxation year-end in which the loan was made. For instance, assuming the corporation has a calendar year-end, a loan issued February 28, 2020, would have to be repaid by December 31, 2021. There are no tax liability issues under these circumstances.

Shareholder loan tax implications:

Ensuring that you are not penalized by the Canada Revenue Agency (CRA) for improperly withdrawing a Shareholder Loan is critical within your personal and corporate income tax planning. Understanding the tax planning opportunities is also important.

  • Any loan to a shareholder that does not meet the conditions is included in the shareholder’s income and no expense is allowed to be deducted by the corporation, resulting in double taxation.  
  • Any subsequent repayment of the loan may be deducted from income in the year it is repaid.  
  • In certain circumstances, this rule creates tax planning opportunities.  For instance, if a $10,000 shareholder loan was made to your adult child studying full-time there would be no tax liability as the $10,000 income inclusion would be sheltered by the basic personal tax credit. Upon commencing work and repaying the loan, your child would deduct $10,000 from income in a higher tax bracket.  If their marginal tax rate at that time is 30% that would create a tax savings of $3,000. Ultimately, the corporation is in the same cash position after the loan is repaid but your child is $3,000 richer.  

In the worst-case scenario, the CRA can have the full amount of the loan plus interest added to the shareholders’ income for the year of the loan and not allow a deduction at the corporate level.  Planning for repayment within two corporate fiscal year ends is a reliable course of action to mitigate any worry of penalization from the CRA. Having an experienced accounting team in place to not only plan but to monitor and execute is pivotal when a corporation has transactional deposits and withdrawals out of the corporation.

How to avoid shareholder loan tax problems:

There are a few straightforward ways to avoid taxation problems. These include:

  • Repaying the loan: If the shareholder repays the loan permanently within one year, he won’t have to pay tax personally on those funds.
  • Taking the cash as a salary or wage: If the owner wants to earn money from his company and avoid double taxation, he could take the funds as a salary or wage. The salary would act as a tax deduction for the company and the owner would include it in his employment income. This avoids double taxation.
  • Taking the cash as a dividend: Avoid double taxation by taking the money as a dividend. A dividend would be declared and the owner would transfer the cash into his personal account. Dividends are taxed at lower rates than employment income so double taxation is avoided. If you issue dividends, you will need to issue T5 and prepare corporate documents called dividend resolutions. 

Shareholder loans are a useful way to manage short-term personal cash needs. They allow shareholders flexibility in how and when cash is withdrawn from a company. If you need a short-term loan for less than a year, a shareholder loan could be an easy way to obtain the funds. The loan needs to be repaid within the year to avoid having to include the amount in your personal income. If repayment isn’t possible, a dividend could be issued and you would pay personal tax on the amount at a reduced rate. The rules relating to shareholder loans can be very complex. To successfully navigate subsection 15(2) of the Income Tax Act and its many exceptions, proper planning is essential. Talk to a Chartered Professional Accountant. They can help you successfully navigate the intricacies of shareholder loans.

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Do You Need an Accountant for Your Small Business?

Accountant for Small Business

Are you in the planning stage of a business venture? Do you own and operate a recently started business? Are you planning a business expansion? When should you hire an accountant to help? The following is some information that can help with the decision of when to hire an accountant. 

What are the duties of an accountant?

An accountant’s duties vary from company to company, but typically they are responsible for:

  • Data management: An accountant is responsible for ensuring a business’ financial data is stored, updated and managed appropriately. They make sure proper procedures are used for data entry and accounting software is up to date, secure and regularly backed up.
  • Financial analysis and consultation: Accountants act as a resource when a business is making financial decisions. They provide tips on spending, discuss options for credit and tax deductions and help interpret financial jargon. They help troubleshoot the day-to-day management of finances in a company. 
  • Financial reports: Accountants supply documents that provide deep insight into a business’s performance (income statements, balance sheets, cash flow statements, profit and loss statement, accounts receivable aging, revenue by customer, accounts payable aging, statement of retained earnings, general ledgers, etc.). A business and its investors make decisions based on the reports their accountant provides. 
  • Regulatory compliance: There are many rules and regulations that affect businesses. An accountant ensures that your income and expense reporting follows applicable provincial and federal laws. 

When do you need an accountant?

An accountant can save you time, money and headaches. There are several key times when an accountant can make a significant difference for a business. 

  • When starting your business: A chartered accountant can assist you in writing your business plan, help you acquire funding, aid you in leasing a space and provide you with direction and goals. They can advise you on the best structure for your business (Sole Proprietorship, Partnership, Corporation), help you get the appropriate licenses (GST number, business license) and assist you in setting up business accounting software. 
  • For compliance and tax issues: An accountant makes sure you are in appliance with applicable tax laws, helps with complex payroll issues and assists with reporting requirements. 
  • When being audited: A chartered accountant provides advice to work within the auditing process. They can recommend accounting software that incorporates an audit trail, easing the transactions needed during an audit.
  • When applying for a loan: An accountant improves your chances of receiving a business loan. They can present facts and figures that back up your application for funding. They can advise you regarding the best type of loan and whether the terms, conditions and interest rates offered are favourable for your company. 
  • When expanding: A chartered accountant can help you handle growth transitions (hiring, larger office space, increased product/service line) and look after details (payroll, tax management, property tax, utility payments) allowing you to focus on company growth. They can analyze cash flow, inventory and pricing to provide insight into how to grow your business successfully. They can even help determine the best time to introduce new products and/or services. 
  • Before taking on a franchise: Franchise contracts vary widely. An accountant can help determine whether the fees and percentages charged will allow for a reasonable income. They assist in providing sufficient information for making the decision regarding franchising. 
  • Before buying a business: Consult an accountant before buying an existing business. They can look into the company’s accounts and determine whether the purchase is a financially sound decision.
  • Before you sell your business: A chartered professional accountant can put your company’s financial records in order and produce statements of accounts that you can show to prospective buyers. They create charts and tables to clearly show your company’s position. They can also structure your financial affairs so that you get the most from selling your business.
  • Every step of the way: The truth is, a chartered professional accountant can help your business at every stage of its development. They can make life easier for you so you can concentrate on operating your business. 

A chartered professional accountant can interpret your financial data in order to help you make better business decisions, assist you with business start-up, aid with tax and compliance issues, be of service during auditing, help you expand and/or buy a franchise, aid in acquiring a loan and help out at various stages during the growth of your business. Every business benefits from working with an accountant! 

Need help with the financial complexities of your business? Want advice regarding your business’ situation? Contact Cook and Company Accountants. Whether you operate a sole proprietorship or a sizable corporation with multiple subsidiaries, we use our experience and expertise to assist you. Contact us to request a meeting.

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Investing: FAQ’s

Investing FAQs

With low-interest rates for savings accounts and a high rate of inflation, saving is no longer adequate to ensure financial security. You need to make your money work for you by investing it. However, the idea of investing can seem intimidating. If you’re just beginning your journey of investing and have some hesitation, read on for our answers to the most frequently asked questions about investing. 

What is the difference between saving and investing?

Saving is the practice of putting money aside for future use (mortgage payments, emergencies, retirement). Investing involves putting your money to work for you (through stocks, bonds, property, mutual funds, etc.) with the intention of increasing its value over time.

Why should I invest?

Investing allows you to grow your wealth and meet your financial goals (purchasing a home, preparing for retirement, building an emergency fund). It can also minimize your tax liability. Before choosing where to invest you need to balance your potential gains with the risk involved. You may choose very safe investment options (ie: GICs) medium-risk choices (ie: corporate bonds) or high-risk picks (ie: REITs). It’s important to have a variety of investment types in order to create a safe, well-rounded, diversified portfolio.

When should I invest?

The longer you invest, the less impact the short-term ups and downs of the market have upon your return. Consider investing as soon as you can. 

How much should I invest?

Invest the maximum amount that you can comfortably afford. Pay off your high-cost debt, set aside an emergency fund, provide for living expenses and short-term goals. Then invest the rest.

Is investing risky?

All investments carry some risk. The goal is to manage the risks. Have a plan and diversify your portfolio. Divide your money among many types of investments based on your risk tolerance and timeline. 

What do I need to consider?

There are a number of factors to keep in mind; your risk tolerance, your timeline (thinking about your future needs for money), your knowledge of investing, your financial situation and how much you can realistically invest. 

What are the different types of investment strategies?

  • Growth investing strategies are most suitable if you are a long-term investor and are willing to withstand market ups and downs. They involve investing in growth stocks; young or small companies whose earnings are expected to increase at an above-average rate. Growth investment is risky as young and/or small companies are untried.
  • Value investing is an investment strategy that involves picking stocks that appear to be trading for less than their intrinsic or book value. Investors who use this strategy hope the stock price will rise as more people come to appreciate the true intrinsic value of the company’s fundamental business.
  • Momentum investing involves buying stocks experiencing an uptrend with the belief that they will continue to do so. This investment strategy often uses a data-driven approach to trading, looking for patterns in stock prices to guide purchasing decisions.
  • Dollar-cost averaging is the practice of making regular investments in the market over time and can be used with any of the above methods. This disciplined approach is particularly powerful when you use automated features that invest for you.

Does age affect which investment strategy I should choose?

Goals and strategies for investment often shift with age. Young investors with a long timeline might feel comfortable with risky investments. Older investors often focus on preserving their savings for retirement and tend to emphasize diversification and dollar-cost averaging.

What are the most common types of investments?

  • Stocks: Companies sell shares of stock to raise money for start-up or growth. When you invest in stocks, you’re buying a share of ownership in a corporation. You’ve become a shareholder. Investment returns and risks for stocks vary, depending on factors such as the economy, the political scene, the company’s performance and other stock market factors.
  • Bonds: When you buy a bond, you’re lending money to a company or governmental entity, such as a city, province or country. Bonds are issued for a set period of time during which interest payments are made to the bondholder. At the end of the set period of time (maturity date), the bond issuer is required to repay the face value of the bond (the original loan amount).
  • Mutual funds pool cash from investors to buy stocks, bonds or other assets offering investors an inexpensive way to diversify. They are operated by professional money managers, who allocate the fund’s assets and attempt to produce capital gains or income for the fund’s investors. A mutual fund’s portfolio is structured and maintained to match the investment objectives stated in its prospectus.
  • Exchange-traded funds (ETFs) are like mutual funds in that they pool investor money to buy a collection of securities, providing a single diversified investment. They can be structured to track anything from the price of an individual commodity to a large and diverse collection of securities. The difference from mutual funds is how ETFs are sold. Investors buy shares of ETFs just like they would buy shares of an individual stock.
  • Real estate: Traditional real estate investing involves buying a property and selling it later for a profit, or owning property and collecting rent as a form of fixed income. Another option is to invest in a REIT. A real estate investment trust (REIT) is a company that owns, operates, or finances income-generating real estate. Modelled after mutual funds, REITs pool the capital of numerous investors making it possible for individual investors to earn dividends from real estate investment without having to buy, manage, or finance any properties themselves. 
  • Annuities: An annuity is a contract between you and an insurance company in which the company promises to make periodic payments to you, starting immediately or at some future time. You buy an annuity either with a single payment or a series of payments called premiums.
  • Guaranteed investment certificates (GICs) is a deposit investment sold by Canadian banks and trust companies. People often purchase them for retirement plans because they provide a low-risk fixed rate of return and are insured, to a degree, by the Canadian government. 
  • Cryptocurrency is a kind of digital electronic-only currency that is intended to act as a medium of exchange. It’s become popular in the last decade, with Bitcoin becoming the leading digital currency. Cryptocurrency is good for risk-seeking investors who wouldn’t mind if their investment goes to zero in exchange for the potential of much higher returns.
  • Life insurance products are often a part of an overall financial plan. They come in various forms, including term life, whole life and universal life policies. 

Investing is a great way to build your wealth over time. There is a range of investment options, from safe lower-return assets to riskier, higher-return ones. You’ll need to understand the pros and cons of each investment option and how they fit into your overall financial plan in order to make an informed decision. While it seems daunting at first, many investors manage their own assets while others work through a brokerage account.

Looking for investment advice for your business? Contact Cook and Company Accountants. Whether you operate a sole proprietorship or a sizable corporation with multiple subsidiaries, we use our experience and expertise to assist you. Contact us to request a meeting.

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All About Deductible Business Expenses in Canada

Deductible Business Expenses

It may seem distant, but tax season will soon be upon us! It’s time to gather your receipts and organize your documents in preparation for filing your business tax return. Sole proprietorships use the same tax schedule as individuals, so returns are due on April 15. If your business is a corporation or a partnership, the return is due on March 15. Canada Revenue Agency offers a number of tax deductions to business owners. Some are deductible at 100% while you may only claim a portion of others. The following are some deductions you’ll want to keep in mind as you file your business taxes this year. 

  • Capital cost allowance: When your business purchases items such as buildings, computers, computer equipment, vehicles and/or a franchise, you can depreciate these articles over time providing a tax benefit for several years.
  • Bad debts are debts that remain unpaid after you have exhausted all means to collect. The CRA allows you to claim bad debts except those which are for a mortgage or resulting from a conditional sales agreement.
  • Start-up costs are costs incurred preceding the start of business operation and can be claimed as an expense. 
  • Fees, licenses and dues: You can claim fees for professional licenses, professional service fees and professional association fees (membership in a trade or commercial association).
  • Use of home expenses: If you operate your business from home, you can claim a portion of the following: interest on your mortgage, electricity costs, home insurance and heating costs. 
  • Delivery, freight and express: You can claim fees for services such as mail and delivery.
  • Fuel costs: You can deduct the cost of fuel (gasoline, diesel, propane) motor oil and lubricants used in your business. This does not include fuel used in your motor vehicle. 
  • Insurance: You can deduct all business insurance policies such as general business liability, business property insurance, business interruption insurance and fire insurance. You cannot deduct the insurance for your motor vehicle or your life insurance premiums.  
  • Interest and bank charges: You can write off any interest you have incurred on money borrowed for business purposes or to acquire property for business purposes and bank charges which are given when processing your payments.
  • Maintenance and repairs: You can deduct the cost of labour and materials for any minor repairs or maintenance done to property you use to earn business income.
  • Management and administration fees:  You can deduct any fees you paid to have your assets and investments managed.
  • Meals and entertainment:  When you attend a convention, conference, or similar event you can claim up to 50% of the cost for food, beverages, plane tickets, hotel rooms and gratuities. When you take a client to an entertainment or sporting event, you can claim 50% of the cost of tickets, entrance fees, cover charges, food, beverages, gratuities and room rental for a hospitality suite.
  • Motor vehicle expenses: If you incur expenses through the use of your personal vehicle for business purposes, you can claim those expenses by keeping an accurate log of use. If your business owns a vehicle or a fleet of vehicles, you can claim fuel, insurance, parking, repairs and maintenance. 
  • Legal, accounting and other professional fees: You can deduct the fees you incurred for external professional advice and/or services such as accounting and legal fees.
  • Prepaid expenses are expenses you pay ahead of time such as yearly rent and can be claimed.
  • Office expenses can be deducted such as the cost of pens, pencils, paper clips, stationery and stamps.
  • Other business expenses are expenses you incur to earn income that are not included on a previous line of your claim such as disability-related modifications, computer and other equipment leasing costs, property leasing costs, convention expenses, allowable reserves private health services plan (PHSP) premiums and undeducted premiums.
  • Property taxes: You can deduct property taxes you incurred for property used in your business such as taxes for the land and building where your business is located.
  • Rent: You can deduct rent incurred for property used in your business such as rent for the land and building where your business is located.
  • Salaries, wages and benefits: You can deduct gross salaries and other benefits you pay to employees but not a salary paid to yourself or your business partner.
  • Supplies: You can deduct the cost of items your business used indirectly to provide goods or services such as drugs and medication used in a veterinary operation, cleaning supplies used by a plumber, supplies used to manufacture a product or software used to supply a service.
  • Telephone and utilities: You can deduct costs for telephone and utilities (gas, oil, electricity, water, and cable) if you incurred the expenses to earn income.
  • Travel: You can deduct up to 50% of travel expenses incurred to earn business and professional income such as public transportation fares, hotel accommodations and meals.
  • Cloud Computing Service Fees: Cloud computing provides access to business data and applications from anywhere, at any time, on any mobile device and may be claimed as a business expense.
  • Donations: Don’t forget that you can claim donations made to registered charities, registered Canadian amateur athletic associations, registered national arts service organizations, registered Canadian low-cost housing corporations, government bodies, registered municipal or public bodies, registered universities, certain registered foreign charitable organizations and the United Nations. 
  • Advertising: You can deduct expenses for advertising and promotion, including amounts you paid for business cards and promotional gifts. You can also deduct expenses for advertising in Canadian newspapers, on Canadian television, Canadian radio stations and online or digital advertising.

 

When in Doubt: Check with your accountant or with the Canada Revenue Agency if you’re in doubt about the tax deduction potential of a particular business expense. 

Allowable tax deductions are constantly changing. If you’re not aware of or don’t understand all of the deductions possible, don’t despair! Get in touch with your CPA. No matter what type of business you operate, what size your business is or where you operate from, your CPA will ensure that you receive all the deductions you’re entitled to. Let your CPA help you determine how much you can save this year.

For all your tax needs contact Cook and Company Accountants. Whether you operate a sole proprietorship or a sizable corporation with multiple subsidiaries, we can use our experience and expertise to make tax time a breeze. Contact us to request a meeting.

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How Does Passive Income Affect Corporate Taxes?

Passive Income Affects Corporate Taxes

Passive income can have a financial impact on a corporation’s tax burden. Strategic planning can reduce the impact of passive income on your corporation’s bottom line.

What is passive income?

Your business may generate income from many sources. Passive income is derived from the ownership of capital property/assets. It’s generally earned through rental, interest income and/or royalties and is achieved without excessive effort on the part of the stakeholder(s). Passive income is taxable in Canada.

What is considered passive income in Canada?

  • Investments: Guaranteed Investment Certificates (GICs) and personal savings accounts are low-yield sources of passive income. Moderate-risk investments like dividends from shares of a corporation are also considered passive income. Passive income can be earned through investments that are part of a non-registered investment plan or portfolio. 
  • Rental properties: Income earned through the leasing of a rental property is considered passive income. 
  • Online platforms are an increasingly popular method of earning passive income. Earning money online can be done independently through one’s own website or through partnerships with affiliates.
  • Corporations: Many corporations own shares in other corporations as a means to generate passive income.

How does passive income affect corporate tax in Canada?

Passive income in any amount is ineligible for the small business deduction (SBD). As such, corporations receiving any passive income will pay a high-rate corporate tax (upwards of 50%) on that portion of their pre-tax income.

Strategies to reduce the impact of passive income on corporate tax:

There are a number of ways that your corporation can reduce the impact of passive income on your corporate taxes. 

  • Withdrawals to permit RRSP or TFSA contributions: Consider withdrawing sufficient corporate funds to maximize your RRSP and TFSA contributions, rather than leaving the funds inside the corporation for investment. Given sufficient time, RRSP and TFSA investing will outperform corporate investing when earnings come from interest, eligible dividends, annual capital gains or a balanced portfolio. 
  • Tax-free withdrawals: If a shareholder previously made a loan to the corporation, and those funds are no longer required by the corporation, consider repaying the shareholder loan. Capital dividends can be paid without being included in a shareholder’s income. 
  • Investment strategies: Consider investments that lean towards growth rather than annual interest or dividend income, as you may better be able to time the recognition of a capital gain. Consider a “buy and hold” strategy to defer capital gains. It may also be possible to stagger dispositions of investments between calendar years.
  • Individual pension plans: An Individual Pension Plan (IPP) is a pension plan created for one person, rather than a large group of employees. 
  • Life insurance: Invest the after-tax income of the corporation into a corporately-owned life insurance policy that insures the life of the business owner or some other individual. There is generally a lower after-tax cost of the insurance premiums, which can be paid with funds that are taxed at a lower tax rate inside the corporation than funds that are earned personally. 
  • Donations: Your corporation will receive a deduction for the amount of the donation and making a donation will reduce the funds that may be invested in your corporation to produce passive income.

Be sure to discuss all tax strategies with your chartered professional accountant to make sure they are appropriate for your corporation. Your accountant can advise you regarding the best tactics to reduce the impact of passive income on your corporation’s tax burden. 

Need help with your passive income taxation strategies? Contact Cook and Company Chartered Professional Accountants. We are based out of Calgary, Alberta, serving clients across Canada and the United States. We provide high-quality tax, assurance, financial and succession planning services for a wide variety of privately-owned and managed companies. Contact us for a complimentary consultation.

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Tax Questions Frequently Asked by the Self-Employed

Self Employed Tax

If you’re self-employed, tax time can be confusing. Do you pay the same tax rate as an employee? What expenses can you deduct? When do you file? Can you get employment insurance? The following are some answers to the tax questions most frequently asked by the self-employed.

Do I qualify as self-employed?

According to the Canada Revenue Agency, a self-employed individual usually works independently. The worker does not have anyone overseeing their activities and is free to work when and for whom they choose. They may provide their services to different payers at the same time and can accept or refuse work from the payer. They typically use their own tools, space and equipment. The working relationship between the payer and the worker does not present a degree of continuity, loyalty, security, subordination, or integration, all of which are generally associated with an employer-employee relationship. The worker is responsible for paying provincial and/or federal sales taxes and may claim certain deductions as business expenses. 

Examples of self-employed positions:

  • Property and real estate managers
  • Farmers and ranchers
  • Brickmasons and blockmasons
  • Food Service Managers
  • Painters (construction and maintenance)
  • Carpenters
  • Lodging Managers
  • Tile and Marble Setters
  • Artists
  • Massage therapists
  • Financial advisers
  • Freelance writers
  • Independent business consultants
  • Local handypersons
  • Food truck owners
  • Photographers
  • Make-up artists
  • Event planners
  • Hairstylists
  • Tutors 

Do I need to charge GST/HST?

According to the Canada Revenue Agency (CRA), if you sell taxable goods or services in Canada and you are registered for a GST/HST account, you must charge your customers GST/HST for your province or territory. You must remit all net tax owing when you file your taxes. Be sure to keep records of the amount of GST/HST you’ve collected and how much you’ve paid on business expenses.

When do I file?

Self-employed individuals must file, like everyone, by April 30th. 

Can I deduct my kids and/or spouse?

If they work for you, you can pay your significant other and/or kids. The money paid to them is tax-deductible, as long as the salary you’ve paid them is reasonable for the work they’ve done. 

Can I get employment insurance?

To be eligible for EI, (including maternity, parental, sickness and compassionate care leave) you have to register.

How much should I set aside for taxes?

Set aside between 15 and 25 percent of your gross earnings to avoid the shock of an unmanageable tax bill at the end of the year.

What deductions can I claim?

Self-employed workers can take advantage of more write-offs than employees bringing home a T4. They can claim:

  • Operating expenses (rental on space, office supplies, repairs, maintenance, inventory, payroll, utilities, professional fees)
  • Home office expenses: If you run your business from your home and use the space for the majority of your activities, then you can deduct a fraction of the cost of your home rent for the tax period. 
  • Meals and entertainment costs associated with a self-employed business are eligible for tax write-offs as sanctioned by the CRA. These costs must be incurred in the company’s name (client dinners, employee lunches, etc.) and only 50% of the total cost of the meals and entertainment can be written off. You’ll need to show evidence that the food or entertainment costs were reasonably and appropriately used for your business. A guide to claiming meals and entertainment can be found on the CRA site.
  • Travel: The CRA allows tax write-offs for self-employed persons who travel outside their usual area of business for work-related reasons (meet a client, pick up inventory, attend a professional conference).
  • Vehicle expenses: Personal vehicle use is not eligible for any type of write-off, but a fraction of such costs can be written-off if you drive your car for work-related reasons. You’ll need to track your mileage. If a vehicle is only used for business purposes, then almost all costs associated with its running are eligible for deductions (gas, mileage, repairs, maintenance, insurance, oil changes).
  • Advertising/marketing: A part of your advertising and marketing costs can be deducted. 
  • Websites and software: The CRA dictates that certain costs associated with your business website are tax-deductible (software/website development, cost of products, contractor fees for installation and/or technical help). 
  • Bad debt refers to money owed to you by others that cannot be paid back. It’s uncollectible revenue and it is considered a business expense. In order for bad debt to be expensed and written-off, you must have done one of two things: establish that an account receivable is a bad debt expense within the specific tax year and/or include the bad debt in your receivable income. Then you are able to claim bad debt under business expenses using the T2125 form.
  • Private health service premiums: If you pay for a private health plan each year, then the premiums you pay on that plan are tax-deductible. 
  • Industry/professional fees: The expenses associated with professional certification required to work in your industry are eligible for write-offs (licenses, certifications, dues and requirements).
  • Professional development and educational expenses: Further learning and professional development can be deducted from your personal returns. 
  • Interest and bank charges attached to your business accounts can be written off. There are strict limits on the interest you can deduct depending on what the loan was for. 

The Canada Revenue Agency states that business income is income from any activity you carry out for profit. If you’re self-employed, you likely earn income from a business that you operate either as a sole proprietor or with someone else as your partner. It could include income from a business, profession, commission sales, farming, or fishing activities. You’ll need to file your taxes in a very specific way in order to meet CRA requirements.

 

Need advice and/or assistance filing your self-employed tax return? Need help determining tax deductions for your home office? Contact Cook and Company Chartered Professional Accountants. We are based out of Calgary, Alberta, serving clients across Canada and the United States. We provide high-quality tax, assurance, financial and succession planning services for a wide variety of privately-owned and managed companies. Contact us for a complimentary consultation.

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Home Office Tax Deductions

Home Office Tax Deductions

Many Canadians choose to work from home. Canada Revenue Agency allows these workers to claim home office deductions on their tax forms. However, there are a number of rules regarding these deductions and not all home-based workers qualify.

What qualifies as a home office?

As an employee, if your employer wants/allows you to work from home, then there are home office deductions that may be claimed, provided the arrangement meets one of the two following criteria:

  1. Your home office must be exclusively for working
  2. You must use that space to complete more than 50% of your work

Additional requirements: 

How much can you claim?

The allowed claim for employees is limited to the amount of employment income remaining after all the other employment expenses have been claimed. You cannot create a loss from claiming home office expenses. Excess expenses can be carried forward and in most cases can be applied to future years. 

What can you claim?

To determine the number of deductions you can claim you must separate the expenses between your employment use and non-employment (personal) use of your home.

  • All salaried employees and commission employees can claim:
    • electricity
    • heat
    • water
    • utilities portion (electricity, heat, and water) of your condominium fees
    • home internet access fees
    • maintenance and minor repair costs
    • rent paid for a house or apartment where you live
  • Commission employees can also claim:
    • home insurance
    • property taxes
    • lease of a cell phone, computer, laptop, tablet, fax machine, etc. that reasonably relate to earning commission income

What cannot be claimed?

Salaried employees and commission employees cannot claim:

    • mortgage interest
    • principal mortgage payments
    • home internet connection fees
    • furniture
    • capital expenses (replacing windows, flooring, furnace, etc)
    • wall decorations

Are there any other limitations?

The expenses you can claim are limited when:

    • you work only a part of the year from your home
    • you have multiple income sources

When it comes to income tax, every deduction helps. Whether you file your own taxes or send them to an accountant, you should be informed of what home office expenses can be deducted from your income tax. Ask your CPA whether you meet the CRA’s requirements for home office deductions.

Need advice and/or assistance determining tax deductions for your home office? Contact Cook and Company Chartered Professional Accountants. We are based out of Calgary, Alberta, serving clients across Canada and the United States. We provide high-quality tax, assurance, financial and succession planning services for a wide variety of privately-owned and managed companies. Contact us for a complimentary consultation.

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Mutual Funds vs. Exchange Traded Funds

Mutual Funds and Exchange-Traded Funds

You may have heard about mutual funds and exchange-traded funds (ETFs). How do you decide which best fits your investment needs? Both offer many benefits for your portfolio and they have a lot in common, but mutual funds and ETFs have some key differences. The following are the similarities and differences and how to determine which of the two instruments is best for you.

What is a Mutual Fund? 

A mutual fund is an investment vehicle that pools money from investors to buy a basket of stocks, bonds, and other securities. This allows you to invest in different companies or bonds at the same time so as to diversify your investments and reduce your risk. Investors buy shares of a mutual fund directly from the company issuing shares or through a broker who purchases shares for investors. Since you buy and hold shares of a mutual fund with the fund company, you cannot move the assets to another financial institution without selling. Mutual funds typically have minimum initial purchase requirements and can be purchased only after the market is closed when their net asset value (NAV) is calculated and set. These funds are generally actively managed by professional money managers so they try to beat their benchmark and may charge high expenses and/or sales commissions. 

Advantages of Investing in Mutual Funds:

  • able to react quickly to changing market conditions (flexibility)
  • a single mutual fund may contain dozens or even hundreds of separate stocks or issuers (diversification)
  • mutual funds can be bought and sold once every trading day (liquidity)
  • a manager is involved in the funds’ investment selection and management, offering investment advice and providing a simpler, more hands-off experience
  • can easily set up automatic investments in fixed amounts

Disadvantages of Investing in Mutual Funds:

  • are expensive and often perform only as well as passive automated investments
  • management fees tend to be high, eating into your returns.
  • may have built-in “loads,” which are essentially sales commissions
  • advice is often an additional cost
  • the vast majority of actively managed mutual funds fail to outperform benchmarks
  • many active mutual funds fail to outperform the market yet you still pay for “active” management
  • traded only once per day at the closing NAV price
  • most mutual funds are not guaranteed
  • the level of risk in a mutual fund depends on what it invests in

 

What is an Exchange-Traded Fund (ETF)?

An exchange-traded fund (ETF) is an investment vehicle that pools money from investors and uses the funds to buy a basket of stocks, bonds, and other securities. You can buy and sell shares of an ETF just like you would buy shares of a stock from a stock exchange. There are various types of ETFs available to investors that can be used for income generation, speculation, price increases and to hedge or offset risk in an investor’s portfolio.

  • Bond ETFs include government bonds, corporate bonds and local or municipal bonds
  • Industry ETFs track a particular industry, such as technology, banking or the oil and gas sector
  • Commodity ETFs invest in commodities, including crude oil or gold
  • Currency ETFs invest in foreign currencies, such as the Euro or the Canadian dollar
  • Inverse ETFs attempt to earn gains from stock declines by shorting stocks (selling a stock, expecting a decline in value and repurchasing it at a lower price)

Advantages of ETFs:

  • access to many stocks across various industries
  • low expense ratios and fewer broker commissions
  • risk management through diversification
  • ETFs exist that focus on targeted industries
  • no investment minimums
  • no fees or sales charges
  • can trade on an exchange throughout the trading day
  • you control the managing of your investments
  • usually generate fewer capital gain distributions overall which makes them somewhat more tax-efficient than mutual funds.

Disadvantages of ETFs:

  • actively-managed ETFs have higher fees
  • single industry focus ETFs limit diversification
  • may contribute to market instability
  • many ETFs are based on unproven models

 

Which is right for you?

Understanding the differences between ETFs and mutual funds can help you decide which is best for you and your business.

Use ETFs if:

  • Tax efficiency is important: If you’re investing in a taxable brokerage account, having more control over capital gains distributions may be important.
  • You’re an active trader: ETFs allow you to set limit orders, stop-limit orders or use margin in your investing strategies as they trade just like stocks. 
  • You want to gain low-cost exposure to a specific market without researching individual companies: A lot of ETF options benchmark niche market indexes.
  • You may change brokers in the future. ETFs are easily transferred between brokers. 

Use Mutual Funds if:

  • You value the potential to outperform the market through active management.
  • You’re investing in less-efficient parts of the market. Actively managed funds have the best potential to outperform in these areas.
  • Comparable ETFs are thinly traded.

 

If you’re not sure whether a mutual fund or ETF is best for you, consider consulting your Chartered Professional Accountant. They understand these products and can offer advice that meets your specific needs. 

 

Need help deciding whether ETFs or mutual funds are right for you? Looking for business advice? Contact Cook and Company Chartered Professional Accountants. We are based out of Calgary, Alberta, serving clients across Canada and the United States. We provide high-quality tax, assurance and succession planning services for a wide variety of privately-owned and managed companies. Contact us for a complimentary consultation.

 

 

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What is a Capital Asset?

Capital Asset

A capital asset is an item a business owns for investment purposes; an investment that is anticipated to generate some kind of value over a specified period of time.  It’s owned for its role in contributing to the business’s ability to generate profit. When you sell it, you earn a capital gain or a capital loss, depending on the price. Gains are taxed at a special rate and losses can be used to reduce the amount that is taxed.

Capital assets have the following characteristics:

  • The asset has an expected useful life of greater than one year.
  • The acquisition cost of the asset exceeds some predetermined company minimum amount, known as a capitalization limit.
  • The asset is not anticipated to be sold as part of normal business operations.
  • The asset is not easily convertible to cash.
  • The asset is recorded on the balance sheet and expensed over its useful life through a process called depreciation.
  • The asset is expensed over the course of its useful life helping to match the cost of the asset with the revenue it generated over the same time period

Kinds of capital assets:

There are two main categories of capital business assets.

  • Tangible capital assets are physical and have a finite monetary value. They include cash, inventory, vehicles, equipment, buildings and investments. 
  • Intangible capital assets do not exist in physical form and include things such as accounts receivable, prepaid expenses, patents, copyright, franchises, trademarks, trade names and goodwill. An intangible asset is difficult to evaluate.

Is there a set cost at which an item becomes a capital asset?

There is no fixed cost at which an item becomes a capital asset rather than a consumable item. It depends on the size of your business. A computer might be a capital asset in a very small business but would be a consumable item in a large company. However, items like batteries, cables and memory sticks are always consumables. If you’re not sure whether an item is a capital asset, speak to your accountant.

Depreciation of capital assets:

A capital asset’s value is spread across the time it takes to be used in your business (it’s useful life). A proportion of the asset’s value is shown as a day-to-day running cost for each year it’s useful. This is referred to as depreciation for a tangible asset or amortization for an intangible asset. The cost must be written off over more than one year. At the end of each year, you subtract all depreciation claimed to date from the cost of the asset, to arrive at the asset’s book value, equal to its market value. At the end of the asset’s useful life for the business, any non-depreciated portion represents the salvage value for which the asset could be sold or scrapped. Accountants use a variety of conventions to approximate and standardize the depreciation process.

Ideally, your business assets will store and increase wealth, increase income and/or reduce expenses. Selling an asset results in a capital gain or capital loss. If you need more information and or understanding regarding your company’s capital assets, talk to your accountant. They have the knowledge, experience and skills to help you with your business needs. 

Need information regarding capital assets and your company? Looking for business advice? Contact Cook and Company Chartered Professional Accountants. We are based out of Calgary, Alberta, serving clients across Canada and the United States. We provide high-quality tax, assurance and succession planning services for a wide variety of privately-owned and managed companies. Contact us for a complimentary consultation.

 

References:

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Bookkeeping Tips for Small and Medium-Sized Businesses

Bookkeeping Tips for Small Businesses

As your business grows, the once simple process of bookkeeping can become complicated and daunting. Yet, it’s vital that you have accurate books. If you don’t keep detailed financial records you can end up with problems; unpleasant financial surprises, an audit, forgotten paperwork, missed goals, large bills from your accountant, payroll and tax challenges. Accurate and efficient bookkeeping can help you make and keep long-term goals, smooth out the ups and downs of seasonal cash flow, improve profits and alleviate troubles with the CRA. The following are some tips to help you improve your bookkeeping skills.

  • Keep business and personal banking separate: Open a dedicated bank account for your business, preferably one with online access as this makes it easier to make payments and do bank reconciliations. If you need business money for personal expenses, do a regular transfer to your personal account. This will make bookkeeping much easier.  Don’t use your personal credit card for work purchases and vice versa.
  • Recognize business vs. personal expenses: You need to know what type of expenses can and can’t be claimed against your profit for the purpose of reducing tax. An expense that is directly related to the operation of the business and towards producing income is tax-deductible. An expense that is for your personal pleasure is not. Mixing personal and business does not mean a full claim for business can be made. If you’re in doubt about whether or not to claim an expense, contact your accountant.
  • Plan for Major Expenses: Consider what expenses will arise in the next one to five years (upgrade of facilities, new office equipment, peaks in staffing costs, emergencies). By planning for major expenses, you can avoid taking money out of the company during good months and finding yourself short in slow months.
  • Utilize bookkeeping software: There are free bookkeeping software packages if you are on a tight budget (Wave, ZipBooks, Akaunting, SlickPie, GnuCash, CloudBooks). If you can afford it, purchase a good quality program that comes with occasional updates (Cashbook, Quickbooks, Xero, Sage, Freshbooks, Zoho). Choose one that is easy to use, customizable, produces charts for quick reference and combines different aspects of reporting from one period to the next. 
  • Organize and store source documents: Quotes, orders, delivery dockets, sales and purchase invoices, credit and debit notes, payment/remittance advice, cheques, receipts, wage records and deposit slips need to be filed and archived for 5 to 7 years. Keeping source documents at your fingertips makes it easier to prevent fraud in your business, improve your accuracy and ease finding transactions when needed.
  • Read and understand monthly reports: Keep your bookkeeping system up to date and produce reports monthly. Learn to read and understand these reports, in particular the income statement and the balance sheet. 
  • Keep on top of sales invoices: Late and/or unpaid bills hurt cash flow.  As soon as a job is complete or a product is delivered, prepare and send out the customer invoices. Put a process in place to track your billing carefully (issuing a second invoice, a phone call reminder, penalties or extra fees). Be organized.
  • Know when to outsource: If you find bookkeeping too difficult or don’t have enough time for it, outsource the task. This can be cost-effective and professional help will ensure accuracy. Professional bookkeepers often give great business advice and assist with many tasks (recommend good software, attend meetings with your banker, explain accounts you find difficult, prepare annual budget and cash flow reports, etc).

These bookkeeping tips can help you improve your business, spend less time on finances, focus on growing your company and enhance your customer relationships. Give them a try!

Need help establishing a good bookkeeping system? Looking for business advice? Contact Cook and Company Chartered Professional Accountants. We are based out of Calgary, Alberta, serving clients across Canada and the United States. We provide high-quality tax, assurance and succession planning services for a wide variety of privately-owned and managed companies. Contact us for a complimentary consultation.

 

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