Tag Archives: taxes

Business Structure, Taxes

How to Pay Yourself

Posted on by Kaitlin Kirk
22
Oct

 

You run your own business and want to pay the least amount in taxes, so what’s the smart way to pay yourself? 

The goal is to keep the biggest slice of pie for yourself. The best way to do that depends on your business type, whether your business is a sole proprietorship or a corporation. 

Your Business Structure 

Sole Proprietor 

As a sole proprietor, you are your business. You can’t be an employee of the business, which means you can’t draw a wage from your business. There’s no way to defer taxes by leaving money “in the business”. The business income and expenses are recorded as an additional schedule on your personal taxes, and all your income is taxed together. 

Having said that, I do recommend keeping the business money separate from your personal money. Make sure to open a business bank account to help with this separation (read this to find out why: https://www.kirkcpa.ca/do-you-need-a-business-bank-account/).  

How do you pay your personal expenses? Don’t do it from the business bank account. Transfer the money from your business account to your personal account and pay your personal expenses from there.  

*Pro tip, these transfers to your personal account don’t count as expenses for your business. 

Corporation 

Paying yourself from a corporation is little more complicated because it’s a separate legal entity. I mean, logistically it’s the same in that you can transfer money from your business to your personal account, but the corporation will have to classify that payment as either dividends or salary (for the purposes of this explanation we’ll treat salaries and bonuses as the same thing).  

The biggest difference between the two methods is a salary is tax deductible for the corporation and dividends are paid out of after-tax income. 

What does that mean? 

A corporation is a separate legal entity from its owner(s) (known as shareholders). As a separate legal entity, the corporation is responsible for paying taxes on its income. If a salary is paid out to an employee, the corporation can deduct it from revenue before calculating taxes. 

The salary is then taxable for the individual. This bit isn’t news. Most of us have worked for someone else, where we’ve been paid a wage that we needed to pay taxes on. 

Paying a wage seems like the better option because you only pay tax once – on your personal taxes. Payroll has its downfalls though. It’s administratively more work because the corporation needs to deduct income taxes and CPP from the salary (just like if you worked for someone else), match the CPP contribution, and remit it to the CRA every month. It can also be more expensive because CPP isn’t paid on dividends, so if the CPP is more than the corporate tax bill it might not be worth it. 

Dividends 

Dividends are not tax deductible for the corporation, so the money paid out has already been taxed at the corporate level. You might be thinking “sweet, if tax has already been paid, does that mean it’s tax free for me to withdraw?” Nope, unfortunately not. You still need to pay personal tax on dividends, which means you’re effectively paying tax twice.  

So why would you take dividends? For you as an individual, dividends are taxed at a lower rate than a salary. Sometimes paying tax at the corporate level (usually lower than paying at the individual level) plus paying the lower individual tax rate on dividends is actually less than the individual tax rate on a salary.  

Let’s recap 

Salary 

Dividends 

Tax deductible for the corporation 

Not tax deductible – paid out of after tax income 

Monthly remittances of income tax and CPP deductions 

No remittances 

Taxed at a higher rate for the individual 

Taxed at a lower rate for the individual 

Corporation has a portion of CPP to pay 

No CPP payments (which means no CPP withdrawal later in life) 

Increases your RRSP contribution room 

No impact on RRSP contribution room 

More conventional personal income so it’s easier to get personal loans 

Tougher to get personal loans (like mortgages) with only dividend income 

More formal process for getting money into the hands of the individual 

Simple transfer between bank accounts 

 

Which one should you choose? 

As with every question asked to an accountant – it depends. Your specific situation will determine the best way to pay yourself from a corporation. If you have another source of employment income, maybe dividends are the way to go. If the corporation is your only income, maybe you pay yourself a salary of $60k and switch to dividends after maxing out your CPP contributions for the year.  

To make the choice, it’s important to calculate the total tax (corporate and individual) payable for a few different scenarios to see which one is the best fit for you. If you’re doing these calculations on your own, I would revisit your strategy every year to ensure you always have the best fit for your changing situation. 

If you’d like help with this calculation, let’s chat! You can get in touch with me here: Contact

Kaitlin

Taxes

For The Love of Taxes

Posted on by Kaitlin Kirk
02
May

This morning I went to drop off some tax papers to a client. She had some great questions, so I spent 40 minutes explaining how her tax return worked, and going over some of her previous year’s returns. She was trying to get an idea of how the various pieces of a year of her life could be summed up in a bunch of numbers grouped together on far too much paper.

She’s a very smart person, but was never taught how all this works, and that seems to be the case with most people.

That’s really sad. Partly because it’s a life skill we should all learn as teenagers, and partly because I love it and I want other people to experience the same joy when they do their taxes. Ok, maybe joy is pushing it, but if we strive for joy and land on something a little more positive than dread, that’s a win.

I like to think of taxes as that scary kid in class with the mohawk. The one that most kids were a little afraid of, but once you got to know them they weren’t so bad.

Love of Taxes: The Origin Story

When I was 15 my Dad showed me how to do my taxes. At the time we were doing them by hand, so I had my pencil and my calculator out, and we would go through every line. My return was very simple at that point because I only had one T4, but it was so fun. How could get as much back as possible? How can I play the government’s game and win? (without cheating though, ’cause I’m not in to that).

Then one day I was hanging out with my group of friends and I noticed one of them had “T4” written on his hand. I asked him “hey, are you doing your taxes?” He said I was the only person who knew what that meant. I jumped on the chance. “You want help?!”

By the time I was 16 I was doing all my friend’s taxes… by hand.

I don’t do them by hand anymore, but I’m still doing my friend’s taxes. Every now and again they’ll get a Notice of Assessment from the CRA (Canada Revenue Agency) asking for proof of expenses, like child care receipts for example, and it’s presumed the tax return was filed incorrectly until they see and approve those receipts. (The CRA doesn’t believe in innocent until proven guilty, you’re wrong until you can prove otherwise).

Surprise bills are never fun, but it seems to be so much worse when they come from the CRA. It feels like those bills are written in some kind of code, and you have no idea what they’re asking for. So frustrating.

These stress-inducing letters are exactly why I think we should starting learning about taxes as teenagers. Guess what though, it’s not too late to learn!

As adults we can learn how our taxes work, and remove the uncertainty and stress that comes with them. Even if we never want to actually prepare our own taxes, we can still have a better understanding of how it all works, and be able to have more informed discussions with our tax professionals.

This is especially true for sole proprietors. Our business taxes and our personal taxes are one and the same, so having an understanding of the system is part of doing business. How much should I set aside from every sale? What expenses can I deduct? Do I need to charge sales tax? How does that work?

As your business becomes more complex, so do your taxes.

The first step to reducing tax stress is to be organized with your paperwork, Don’t think of taxes as a once a year event, think of them as something you maintain. It’s like oral hygiene. If you only brush your teeth once a year, things are going to get gross.

The best results come from healthy tax habits like regular receipt management and bookkeeping.

Kaitlin

Bookkeeping, Business Structure

Do You Need a Business Bank Account?

Posted on by Kaitlin Kirk
13
Jan

You’ve probably heard it before – “you need a separate bank account and credit card for your business.”

It’s true, you do.

But why? It makes everything harder! Money goes into the business account, but all your bills come out of your personal account. How are you supposed to pay for things like groceries if all of your money is in the business account?

I get it, I’m a small business owner too – my business income has to pay my personal expenses.

Whether you’re incorporated or a sole proprietor, you need a separate account.

As a sole proprietor, things are a bit simpler because everything you make goes on your personal taxes, so you can transfer money to your personal account without too much planning (besides some cash flow management, but that’s beyond the scope of what we’re talking about here).

Why does it need to be separate?

Having a clear line between your personal and business expenses, ensures you’re only claiming the business ones against the business income.

The Canada Revenue Agency isn’t going to let you deduct cat food if you’re a coach. Sorry about that.

On the other hand, you definitely want to deduct everything related to the business – if you don’t, you’re paying more in taxes than you need to. Nobody likes that.

Taxes are a huge reason to keep everything separate. Not only for the sake of compliance but also to save time. When the inevitable tax season comes around, you don’t want to be going through every bank statement for every bank account and credit card you have trying to pick out the expenses you think might be business related.

It’s time consuming, tedious, and honestly, it’s pretty unlikely you’ll make it through the whole exercise without making a mistake somewhere.

Trying to remember what you bought at Canadian Tire eight months ago is going to be a tough one, and if you can’t prove it was business related, you can’t deduct it for tax purposes.

Maybe you keep all your receipts and write on them to say what you bought and why. That’s great! That will definitely help to keep things separate. You’ll still have to go through and add up all of those receipts at the end of the year.

Pro tip: you can take a picture of receipts with your phone and toss out the paper. The CRA will accept digital copies as proof of purchase. Yay!

What if the business is incorporated?

Corporations are technically separate legal entities from their owners (a.k.a. shareholders), which means they for sure need their own bank account and credit card.

The corporation will need to pay tax on its income, and you’ll need to pay tax on what you receive from the business. When you have only one bank account, that makes things tricky. Where’s the line between business and personal?

Having a separate credit card makes life SO much easier. The fee on your bank account will be way less if you only have a few transactions every month, and you can use the credit card to pay for everything. I know it’s hard to get credit for the business, especially if you’re just starting out, but it can be as simple as just getting another card issued on your personal account. The important thing is to have another physical card that you only use for business. It will show up on your statement separately from the other card.

Are taxes the only reason?

Nope, it’s just the one with the biggest potential consequences.

Reporting will be difficult too if you only have one account. How much did the business make in net income? Will you have cash in the bank to pay your suppliers on time? If everything is in one account it will be tricky to know the answers to these questions, which makes it tricky to run the business efficiently.

If the business is a side-hustle and you still have a day job, you’ll have no idea if the business is making money if it’s not separate. You might be bankrolling the business and not even know it.

At that point it’s more of a hobby than a business, which is ok, but keeping your finances separate will give you all the facts.

What’s the take-away?

At the very least, the business should have its own bank account, and ideally a credit card too. It will be so much less stressful and time consuming when taxes inevitably roll around. Plus, if/when you start working with a bookkeeper or an accountant, you’ll save money because they’ll spend less time on your taxes. Win!

Kaitlin