Preparing taxes at year-end can be challenging and things can become more complicated if you own a business as a sole proprietor. Unincorporated self-employment offers entrepreneurs the opportunity to work outside of their salaried jobs or even create a start-up business without incorporating.
Unincorporated businesses also have lower entry and exit costs than incorporated businesses and are a significant part of the Canadian economy. Here are four tax tips to help you prepare for filing for your unincorporated business:
1) USE THE CORRECT FORM
When it comes to filing taxes, the business is taxed at personal income tax rates and the income is filed on the owner’s personal income tax.
Completing form T2125 (Statement of Business or Professional Activities) and submitting with the T1 simplifies the process and ensures that the final numbers for the business match what is being reported on the T1.
Make sure to enter the gross income on line 13499 and net income on line 13500 of the T1.
2) KEEP TRACK OF YOUR BUSINESS EXPENSES
Trying to remember specific expenditures months down the road or going through bank statements weeks later can leave things missed or forgotten – especially if you may not be the most organized person. It is recommended that you go over documents monthly to keep your records up-to-date. Even better, use a separate bank account solely for your business and a different credit card for paying for business expenses as this will help you track all of your income and expenses.
It is also highly recommended that you keep all receipts and any additional documentation in a secure place in case the Canadian Revenue Agency (CRA) makes a request to review files. In addition to keeping the receipt, write down why it was a business expense and explain why you needed to make the expenditure. This will help you should the CRA come calling.
3) CLAIM YOUR HOME OFFICE EXPENSES
Many unincorporated entrepreneurs work out of their homes and can claim home office expenses under certain conditions. There are two possible conditions where this occurs:
- It is your principal place of business,
- The space is used only to earn your business income and you use it on a regular and ongoing basis to meet your clients, customers or patients.
For businesses that are launching or had a slow year, home office expenses can be claimed to reduce net income to zero, but not to increase a loss. Any expenses not claimed can be carried for the following year.
4) PLAN FOR ANY ADDITIONAL PAYMENTS
As a sole proprietor, your taxes are not being deducted from regular paycheques as they would if you were a salaried employee. This is where one can find themselves in trouble… At the end of the year when that large tax bill owing appears.
If you come from a position where you’re used to being a salaried employee, the idea of having to set aside money for taxes is not always known. Also, as a self-employed person, you may be required to pay tax instalments throughout the year.
Depending on where you live and your net income, you may need to pay these instalments. If you live in Quebec, for example, on December 31st of a tax year, the limit of net federal tax owing is $1,800. For any other province or territory, the limit of net tax owing is $3,000.
According to the CRA, you have to pay instalments for 2021 if:
- your net tax owing for 2021 will be above the threshold for your province or territory ($1,800 or $3,000).
- your net tax owing in either 2020 or 2019 was above the threshold for your province or territory.
The CRA also provides instalment reminders to those who may have a requirement. If you pay the amounts the CRA recommends, you will not be charged interest – there’s a bright side!