A look at Canada’s small business tax deduction

A look at Canada’s small business tax deduction

Tax is season is upon us, which means it’s time to address some tricky questions that might arise as you prepare your taxes this year. In this blog, we will look at the small business deduction available to certain businesses under the Canadian Income Tax Code. Who is eligible for this deduction? What deferral advantage can you receive? And how can a business lawyer help you access it?

In Canada, many small business owners run their business through a private corporation, more formally known as a Canadian-controlled private corporation (CCPC). There are a number of reasons for doing this, including a substantial lifetime capital gains exemption on the sale of the business, and opportunities for income-splitting with a family member.

Incorporating is also the first step to being eligible for the small business tax deferral on the first $500,000 of active income. The Financial Post explains:

“For the business owner or incorporated professional who “doesn’t need all her cash” and can afford to leave some money in her corporation for investment purposes, there a (sic) significant tax deferral advantage by leaving the after-tax corporate income inside the corporation as opposed to paying it out immediately.”

The deferral varies slightly across the country, ranging from as high as 40 per cent in Nova Scotia to as little as 35 per cent in British Columbia, Quebec and Alberta. Contact a business lawyer for more information on the deduction in Ontario.

Who is eligible?

The Income Tax Act dictates that a CCPC must be an “active business” to claim the deduction. Under the act, an active business is “any business carried on by a corporation other than a ‘specified investment business.’” A ‘specified investment business’ is any business with less than six full-time employees and which earns investment or rental income as its “principal purpose.”

To use an example provided in the Post, if a taxpayer who owns several homes aims to renovate those properties and resell them for profit, they may be eligible for the small business deferral. However, if the business collects rent from those homes as its sole source of revenue, then renting those properties is the business’s “principal purpose,” and it would therefore not be eligible for the deferral. A business lawyer can help you through the minutiae of this and other similar income tax laws.

The small business deferral is not only highly beneficial for business owners, but has been leveraged by high-income incorporated professionals to reduce taxes on a segment of their earnings. During the 2015 federal election, Justin Trudeau’s Liberal Party promised to ensure that “CCPC status is not used to reduce personal income tax obligations for high-income earners rather than supporting small businesses.” Whether this promise leads to amendments of the Income Tax Act remains to be seen.

If you have questions about the small business tax deduction, feel free to contact a business lawyer at Nanda & Associate today. Our team will help you understand how the Canada’s tax system works for you and your business, and guide you on your next steps forward.

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