Tax Tips for Business Owners in Canada
"The hardest thing in the world to understand is the income tax"
Most Business Owners dread the Tax Season and hope for a magic, but only a good tax planning has the magical power– clarity, understanding and confidence.
BUSINESS OWNERS GUIDE TO TAXES
COMPENSATION PLANNING FOR OWNERS OF INCORPORATED BUSINESSES
A corporation may distribute its income to you (as a shareholder and employee of the corporation) either as salary or dividends.
If corporate income is paid to you as salary (or bonus), the corporation (employer) can claim an income tax deduction for the salary (and applicable payroll taxes), which reduces its taxable income. You include the salary in your taxable income and pay tax at personal, graduated tax rates.
As an alternative to distributing income as salary, the corporation can pay tax on its corporate income. In the year the income is earned or a future year, the corporation can distribute its after-tax corporate income to you as dividends. You generally pay no tax on capital dividends4 and pay a lower tax rate (than for salary) on eligible and non-eligible dividends due to dividend tax credit (DTC), which is meant to compensate for taxes paid by the corporation.
SO HOW DO YOU CHOOSE BETWEEN SALARY AND DIVIDENDS?
As a general rule-of-thumb, if you need to withdraw funds from your corporation, perhaps to pay personal expenses, then consider withdrawing salary to create RRSP contribution room. Receiving salary of up to $162,278 in 2021 would create RRSP contribution room in 2022 of up to $29,210 (the 2022 maximum).
If you do not need to withdraw funds from your corporation, you may still wish to withdraw sufficient funds to maximize contributions to RRSPs and TFSAs.
The Government confirmed the tourism levy offour percent on short-term rentals offered online will become effective April 1, 2021. This measure was initially announced in Budget 2019. Amendments to the Tourism Levy Act were passed in spring 2020, with supporting regulations made in fall 2020.
The new levy comes into effect upon expiry of the general tourism levy abatement provided for the period from March 1, 2020, to March 31, 2021.
As initially proposed, a new exemption was introduced for properties that are not listed on any online marketplace, where the purchase price of the rental is less than $30 per day or $210 per week, or the operator has annual gross revenue from the rental of temporary accommodation in Alberta of less than $5,000.
Online marketplaces will be authorized to collect and remit the tourism levy on behalf of operators. Those operators offering short-term rental through online marketplaces who do not collect and remit these levies will be required to register with Alberta's Tax and Revenue Administration, collect the tourism levy from their customers, file an online return and remit the levy to the Government.
The "tax on split income" (TOSI) rules can apply where an individual receives dividend or interest income from a corporation, or realizes a capital gain, and a related individual is either actively engaged in the business of the corporation or holds a significant amount of equity (with at least 10% of the value) in the corporation.
When the TOSI rules apply, dividends are taxed at the highest marginal rate.
If your private corporation has other shareholders, such as your spouse, partner, children, or other relatives as shareholders, review the possible impact of the TOSI rules with your tax and legal advisors before paying dividends to these individuals in 2021.
PASSIVE INVESTMENT INCOME
The first $500,000 of active business income in a Canadian-controlled Private Corporation (CCPC) generally qualifies for the small business deduction (SBD), which reduces the corporate tax rate by 12 to 20 percentage points in 2021, depending on the province or territory. This means there may be significantly more after-tax income in your corporation for investment when the SBD is available.
The government believed this posed an unfair advantage and, so, new rules were introduced effective in 2019 which affected the amount of income that's eligible for the federal SBD. The SBD is generally reduced by $5 for each $1 of passive income over $50,000 in the previous year. Once passive income reaches $150,000 in the previous year, none of the current year's business income may be eligible for the lower tax rates.
If your corporation is approaching the $50,000 limit for passive income in 2021, consider a "buy and hold" strategy to defer capital gains. Also, consider whether an Individual Pension Plan or corporately owned exempt life insurance may be appropriate, as income earned within these plans will not be treated as passive income.
Ontario and New Brunswick have not followed the federal measure, so the provincial SBD is still available for active business income up to $500,000 annually in these two provinces. This may lessen the negative tax impact of the federal measure. You should consult a tax advisor prior to year-end to determine how provincial and federal measures may apply.
You may also wish to withdraw sufficient salary from your private corporation by December 31 to maximize contributions to RRSPs and TFSAs. These registered investment plans may offer benefits beyond those available with corporate investments. Receiving salary of at least $162,278 by December 31, 2021, may allow the maximum RRSP contribution of $29,210 in 2022. Reasonable salaries may also be paid to family members who work in the business to allow them to make contributions to RRSPs and TFSAs. This will also reduce future investment income within the corporation, perhaps preserving access to the SBD, as discussed above.
In response to the COVID-19 pandemic, governments have introduced temporary tax deadline extensions, subsidies, enhanced tax credits and other measures to support individuals and businesses throughout this public health emergency. These temporary measures continue to evolve quickly in response to the changing economic landscape.
The Budget proposed the new wage subsidy rate structures for June 6, 2021 to September 25, 2021. The maximum subsidy rates will initially be 75 percent, with gradual phasing out starting July 4, 2021. Only employers with a decline in revenues of more than 10 percent will be eligible for the wage subsidy for qualifying periods beginning on or after July 4, 2021.
LOCKDOWN SUPPORT FOR CERS
Further support is available for applicants who qualify for the base rent subsidy in locations that must cease operations or significantly limit their activities under a public health order issued under the laws of Canada, a province or territory. Budget 2021 proposes to extend the current 25-percent rate for the Lockdown Support for the qualifying periods from June 6, 2021, to September 25, 2021.
CANADA RECOVERY HIRING BENEFIT
Budget 2021 introduces the new Canada Recovery Hiring Benefit (CRHB). This program provides eligible employers a subsidy of up to 50 percent on the incremental remuneration paid to employees between June 6, 2021, and November 20, 2021.
Eligible employers can claim either the CRHB or the CEWS for a particular qualifying period, but not both.
Eligible employers include individuals, non-profit organizations, registered charities, certain partnerships, and Canadian-controlled private corporations (CCPCs). Employers qualify for this program if they have a drop in revenue which is to be computed the same way as it is computed for the CEWS.
The subsidy is equal to the incremental remuneration multiplied by the applicable hiring subsidy rate for that qualifying period. Incremental remuneration for a qualifying period means the difference between remuneration paid by an employer in a qualifying period and remuneration paid by an employer in a baseline period. The initial baseline period will be March 14 to April 10, 2021.
CORPORATE TAX RATES
No new corporate income tax rate changes were announced in this Budget, other than for zero-emission technology manufacturers as described below.
Budget 2021 proposes to provide immediate deductions in respect of certain "eligible property" acquired by a CCPC. This immediate deduction will be available for eligible property acquired on or after Budget Day and that becomes available for use before January 1, 2024, up to a maximum amount of $1.5 million per taxation year.
The immediate deduction will only be available for the year in which the property becomes available for use. The $1.5-million limit will be shared among associated members of a group of CCPCs. CCPCs with capital costs of eligible property in a taxation year that exceed $1.5 million will decide which capital cost allowance (CCA) classes the immediate deduction will be attributed to, and any excess capital costs will be subject to the normal CCA rules. For those CCPCs with less than $1.5 million of eligible capital costs, no carry-forward of excess capacity will be allowed.
RATE REDUCTION FOR ZERO-EMISSION TECHNOLOGY MANUFACTURERS
Budget 2021 proposes a temporary measure to reduce corporate income tax rates for qualifying zero-emission technology manufacturers as follows:
- 5 percent, where that income would otherwise be taxed at the 15 percent general corporate tax rate; and
- 5 percent, where that income would otherwise be taxed at the 9.0 percent small business tax rate.
The reduced rates will apply to taxation years that begin after 2021. The reduced rates will be gradually phased out starting in taxation years that begin in 2029 and fully phased out for taxation years that begin after 2031.
CCA FOR CLEAN ENERGY EQUIPMENT
Budget 2021 proposes to modernize CCA classes for investments in specified clean energy generation and energy conservation equipment. Qualifying property will be eligible for accelerated CCA rates of 30 percent and 50 percent, depending on classification.
INTEREST DEDUCTIBILITY LIMITATIONS
Budget 2021 proposes to introduce rules that will limit the amount of net interest expense that an entity may deduct in computing its taxable income to no more than a fixed ratio of "tax EBITDA." Generally, EBITDA is a corporation's taxable income before considering interest expense, interest income and income tax, and deductions for depreciation and amortization.
The measures will be phased in, with a fixed ratio of 40 percent for taxation years beginning on or after January 1, 2023, but before January 1, 2024 (the transition year), and 30 percent for taxation years beginning on or after January 1, 2024.