Tax Considerations for Self-Employed People
According to the CRA, someone who runs a business, be it a sole proprietorship or partnership, is classified as a self-employed person. Since January 2011, self-employed Canadians can register for Employment Insurance special benefits including maternity, parental, and sickness benefits. This post will look at some key items that would be useful for self-employed people.
Who is a Self-employed Person?
A person operating a business for profit in any profession, trade, service, manufacture, etc. is deemed to be self-employed. For tax purposes, the date of commencement of the business must be known. Costs incurred in exploring different business prospects to finalize one cannot be deducted as the business is not deemed to have started. However, if a boutique were to purchase merchandise to start the business, then the business is deemed to have begun and costs incurred can be deducted. It is worth noting that, in the second case, even if the boutique was shut down without any sales, the costs can still be deducted.
Reporting Business Income and Expenses
A self-employed person can file their business income and expenses using Form T2125. In case of a person owning two or more businesses, each business requires a separate form. Failure to report all business income may entail a penalty of 10% of the amount that was not reported after the first omission. Intentionally making false statements or omissions are liable to face a penalty of 50% of the tax amount in relation to the false statement or omission.
A partnership typically involves people who run a business for profit, with or without a written agreement. Usually, a business partnership does not file an income tax return but each partner involved files a tax return separately to report their share of the net income or loss. Since January 1, 2011, new filing criteria for partnerships with fiscal periods ending on or after January 1 were introduced. Partnerships with 5 or less partners during the fiscal period do not have to file a Partnership Information Return (PIR). For more details about the PIR, please refer to this link.
Limited partnership. In a limited partnership, the responsibilities of a partner are limited, unlike a general partnership where there is unlimited liability.
Any reasonable expenses paid as part of operating a business can be deducted along with the GST/HST incurred on such expenses minus any input tax credit claimed. Please note that if the GST/HST paid on business expenses are claimed as input tax credit, then the corresponding amount must be subtracted from business expenses on Form T2125. Nonetheless, personal expenses cannot be deducted. For a detailed listing of reasonable business expenses, refer to this section.
Investment Tax Credit
Certain kinds of qualifying property and expenses incurred on them can be deducted from the taxes owed using the Investment Tax Credit.
A self-employed person is required by law to keep a record of daily income and expenses, including duplicate deposit slips and bank statements. For accounting, there are two methods available:
The accrual method can be used to report income in the same fiscal period it was earned, whether or not it was received during that time. Similarly, expenses incurred in a particular fiscal period are reported in that period, whether already paid or to be paid.
For certain self-employed persons such as commission sales agents, the cash method can be used to report income in the year it was received and claim expenses in the year it was paid.
Are you a self-employed person? What suggestions do you have for fellow readers? Do you have any tax-related tips?
About the Author: Clark works in Saskatchewan and has been working to build his (DIY) investment portfolio, structured for an early retirement. He loves reading (and using the lessons learned) about personal finance, technology and minimalism. You can read his other articles here.