4 tax tips when filing for your unincorporated business

From staying up-to-date on expenses to claiming office expenses, find out what to include when you’re a sole proprietor

Young man working on a laptop in his home office. Keeping track of your business expenses is one of the most important things you can do to simplify the tax filing process (Getty Images/Eva-Katalin)

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 business and are a significant part of the Canadian economy. In the 2017 tax year, approximately 3.1 million individuals reported some form of self-employment income.

Here are four tax tips to help you prepare for filing for your unincorporated business:

1) FILE WITH 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,” says CPA James Cleaveley, tax manager at Live.ca, the first virtual CPA firm licensed in Canada. Using additional forms will likely only cause more confusion, he says.

Make sure to enter gross income on line 13499 and net income on line 13500 of the T1.

2) KEEP TRACK OF BUSINESS EXPENSES

Trying to remember specific expenditures months down the road or going through bank statements weeks later can leave things missed or forgotten. Cleaveley recommends going over documents monthly to keep records up-to-date. Even better, using a separate bank account for your business and a different credit card for paying for business expenses will help make sure you track all of your income and expenses.

Cleaveley also recommends keeping all receipts and any additional documentation in a secure place in case the Canadian Revenue Agency (CRA) makes a request to review files. “Often, in a situation where the tax return is reviewed, it’s a lack of documentation due to not having the receipt that results in additional taxes owing,” he says. In addition to keeping the receipt, write down why it was a business expense to explain why you needed to make the expenditure for business purposes. This will help you should you need to verify the expense at a later date.

3) CLAIM HOME OFFICE EXPENSES

Many unincorporated entrepreneurs work at home and can claim home office expenses under certain conditions. Bruce Ball, FCPA, CPA Canada’s vice-president of taxation, says there are two possible conditions where this occurs. “The first is if it is your principal place of business,” he says. “The second is if you use the space 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 down year, Cleaveley explains that 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 ADDITIONAL PAYMENTS

As a sole proprietor your taxes are not being deducted from regular pay cheques as they would if you were a salaried employee. This is where people can find themselves in trouble.

“If you’re used to being a salaried employee, the idea of having to set aside money for taxes is not always understood,” says Ball. “Also, as a self-employed person, you may be required to pay tax instalments during the year.”

Depending on where you live and your net income, you may need to pay these instalments. If you live in Quebec on December 31 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.

For those who live in Quebec, a provincial instalment requirement may also exist. To avoid falling short, Ball recommends using a separate business account and ensure you leave enough money in the account when transferring funds for personal use to cover quarterly instalments or the balance due upon filing. Instalments are due on the 15th of March, June, September and December.

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.

TAX FILING RESOURCES

For more tax tips, find out what to look out for when filing for an incorporated business. And here’s what to do if you’ve realized something was missed on your return after you’ve filed. Also, stay current on Canadian tax news and COVID-19 updates and get practical information and fresh perspectives on tax with our tax blog.