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Article written by Chris Coulter
Business owners may find some additional benefits this tax season, depending on whether they are the owner of a sole proprietorship, or an incorporated business.
Sole Proprietor
Unfortunately, there are far fewer advantages available to owners of a sole proprietorship because the individual is the business. The profits of the business are included in the tax return of the business owner, and the expenses of the business are included in the business owner’s personal tax return.
The one advantage to take note of is sole proprietors do not need to file their personal income tax until June 15, whereas the rest of the population is required to file by April 30. Since sole proprietors don’t file a separate corporate tax return, their advantages are limited.
Sole proprietors still have the ability to max out their RRSP contributions for the year and any unused RRSP room from previous years.
Incorporated Business
As the owner of an incorporated business, your advantages are far more significant, albeit you may realize this in your corporate tax return versus your personal tax return. Because business owners can defer taking income from their business, they may choose to leave income in the business in the form of retained earnings, or pay themselves a dividend through their business. The challenge will always be getting money from your business into your hands personally, in the most tax-efficient manner.
Here are some things that you may want to consider, but keep in mind that the information here will truly help you if you use it for long-term strategy.
Taking Salary and Bonuses
Many business owners will choose to take a smaller salary and, depending upon how business goes in any given year, issue bonuses or dividends. The advantage of getting paid a lesser salary is that you fall under a lower marginal tax rate. Business owners may choose not to take a bonus in a given year, and then give themselves a bonus on January 1.
You can’t avoid paying taxes, but you can choose when you’d like to pay them. The balancing act becomes how not to pay too much personal income tax, and managing how much corporate income tax you pay. Since the small business marginal tax rate is significantly less than most personal marginal tax rates, many business owners will leave money in their business instead of taking it as personal income.
Contributing Towards RRSPs or Starting Your Own Pension
Many individuals like to contribute to their RRSP. The amount they contribute will result in a reduction of their taxable income, and thus they pay less tax in any given tax year.
Business owners can choose to contribute to their RRSP, but there’s a better way for them to fund their retirement. Business owners have the ability to start a pension (Personal Pension Plan) through their business. This is a CRA approved vehicle that will allow business owners to contribute to their retirement, and it is fully paid for by their business. This means that the business owner doesn’t need to declare this amount as personal income, and the business can write this entire amount off as a business expense.
The pension is a business expense. It also allows you significantly greater contribution room than an RRSP. It is completely creditor protected (meaning no creditor can go after it). It also has some additional tax advantages that can allow you to claim for past service, and you can top up your pension and retire before 65 without impacting your pension amount.
This is a smarter option for business owners than simply contributing to their RRSP.
Spousal Support Payments
If you pay spousal support, you will be able to claim that amount as a tax credit against your personal income tax return.
Many spousal support agreements are revisited on an annual basis depending upon how much personal income you and your ex-spouse declare. In any given year, your annual income may change. This can reflect upon your child or spousal support obligation, positively or negatively.
This can relate to both incorporated and sole proprietorship business owners.
The Takeaway
As a business owner, you can’t look at your personal income tax without looking in tandem with your corporate income tax. Businesses have good years and bad years, and the income of a business owner is directly related to this reality.
Regardless of your situation, it’s important to meet with a qualified accounting professional to ensure that you receive the most sound advice.