Taxes for incorporated businesses are different from taxes for individuals. Even if you don’t plan on doing everything yourself, it’s a good idea as an entrepreneur to learn the basics of the different tax calculations for incorporated businesses in Canada. Here are some business tax tips from our experts.
You have to file a separate tax return for your business
An incorporated business is a separate entity in the eyes of the tax authorities—it’s considered to be a corporate body. The business must therefore file its own income tax return, independent of its owners’ return.
A business must complete and submit a T2 form to the federal government
In addition to this basic form, there are appendices that allow you to calculate exactly what needs to be paid in taxes.
These appendices are used to:
In Quebec, you must also complete the CO-17 form. This form is a summary of business income and expenses for the fiscal year.
Businesses set the beginning and end of their own fiscal year
While individuals must file their tax returns according to dates set by the government, businesses set the beginning of their fiscal year themselves, depending on what works for them. Some will choose a quieter moment in the year, to ensure more time to devote to administrative tasks. Businesses must produce and submit the documents within 6 months of the end of their fiscal year, even if they generally have only 2 months to pay their taxes.
All business income must be declared. Income can be grouped into two main categories, each of which is taxed differently:
The basic principle for deducting a business expense is that it must be used to earn income. For example, purchasing the machinery used to make your product is an eligible expense. Life insurance, on the other hand, is not.
It’s important to deduct each expense in the right category to get the net results for each type of income.
There are current expenses and there are capital expenses. Capital expenses are assets that have a longer life span, but diminish in value over time, such as a car or a computer. Also included in this category are big-ticket expenditures like repairs or renovations to improve the condition of an asset. Instead of deducting the total cost of acquiring the asset at the time of purchase, you need to calculate its amortization.
Note: The amortization of an asset must be calculated according to predefined percentages and the category of asset. The longer the normal life span of an asset, the lower its amortization rate.
For example: The amortization rate for a car is 30% per year, which essentially means that a car loses 30% of its value every year. Its value gradually decreases without ever reaching 0. Be sure to note that the “half-rate rule” applies in the first year.
This means that if you buy a car for $30,000, you can deduct 15% (the half-rate) from your taxes in the first year, which works out to $4,500.
In the second year, you can deduct 30% of the remaining $25,500, or $7,650.
There is a distinction between the tax treatment of a company-owned vehicle and that of a personal vehicle used for business purposes.
The primary factor in determining whether it is better for a vehicle to be company-owned or personally owned is its use for business purposes. That said, the amortization, maintenance costs, and the value of the vehicle are also important considerations.
A financial advisor or accountant can help you calculate which option is best for you.
For a vehicle exclusively reserved for company use, the calculation is simple: all expenses are deductible, including gas, repairs, maintenance, payments and amortization.
When a vehicle is owned by an individual and used for business, the company can pay an allowance for its use in the form of an expense account. This expense is calculated based on mileage and is deductible for the company. It is not taxable for the individual. Expenses reimbursed cannot exceed a maximum amount per kilometre.
Personal and company vehicle
For a company vehicle that is sometimes driven for personal use, a mileage log must be kept to determine the percentage of personal versus company use. The company can then deduct the company use percentage from the total expenses. The remainder, the personal portion, is non-deductible and is also considered a taxable benefit for the individual. This personal use portion and associated expenses must be reported on the user’s T4 slip (RL-1 in Quebec).
For an expense to qualify as a work-from-home expense, the business must pay it directly. This could be rent paid to the homeowner for the use of space, for example.
If you use part of your home to perform work for your incorporated business, the business could pay you rent. Depending on your situation, this option would reduce taxable income of your business by allowing you to deduct the value of the rent paid.
Good to know: Depending on the amount of rent paid, sales taxes may apply. The shareholder will have to add this rent to their personal income but will be able to deduct certain expenses (taxes, interest charges, electricity, etc.) based on the proportion of the home that is used as a workspace.
The basic principle is simple: all eligible expenses are subtracted from total income to arrive at the taxable amount. When planning a company’s tax strategy, it is important to understand that tax rates can vary depending on the type of income, the amount of taxable income and the business limit.
In the case of business income derived from active operations such as the sale of products or services, there are two possible rates:
The business limit is generally $500,000, but certain tax rules may reduce that amount.
Tax rates may vary by industry as governments sometimes want to encourage economic activity in certain industries. The number of hours worked by a company’s employees during the year can also cause the tax rate to fluctuate.
In the case of passive income derived from income and gains on investments or property, there is only one fixed rate. It is higher than the rate for active income and is similar to the personal tax rate that a high-income individual would have paid on the same passive income.
Careful bookkeeping is one key way to make life easier for the people crunching the numbers.
Good to know: There are several tax software programs available at a range of price points.
Tracking income and expenses
It is mandatory to keep supporting documentation such as mileage logs, invoices, or purchase orders for 6 years.
Filing income tax returns for an incorporated business is required, so make sure your records are up to date and turn to our experts for help. We’re here to answer your questions.
Any reproduction, in whole or in part, is strictly prohibited without the prior written consent of National Bank of Canada.
The articles and information on this website are protected by the copyright laws in effect in Canada or other countries, as applicable. The copyrights on the articles and information belong to the National Bank of Canada or other persons. Any reproduction, redistribution, electronic communication, including indirectly via a hyperlink, in whole or in part, of these articles and information and any other use thereof that is not explicitly authorized is prohibited without the prior written consent of the copyright owner.
The contents of this website must not be interpreted, considered or used as if it were financial, legal, fiscal, or other advice. National Bank and its partners in contents will not be liable for any damages that you may incur from such use.
This article is provided by National Bank, its subsidiaries and group entities for information purposes only, and creates no legal or contractual obligation for National Bank, its subsidiaries and group entities. The details of this service offering and the conditions herein are subject to change.
The hyperlinks in this article may redirect to external websites not administered by National Bank. The Bank cannot be held liable for the content of external websites or any damages caused by their use.
Views expressed in this article are those of the person being interviewed. They do not necessarily reflect the opinions of National Bank or its subsidiaries. For financial or business advice, please consult your National Bank advisor, financial planner or an industry professional (e.g., accountant, tax specialist or lawyer).