What is a Sole Proprietorship?
According to Canada Revenue Agency (CRA), the definition of a sole proprietorship is as follows:
A sole proprietorship is an unincorporated business that is owned by one individual. It is the simplest kind of business structure. The owner of a sole proprietorship has sole responsibility for making decisions, receives all the profits, claims all losses, and does not have separate legal status from the business. If you are a sole proprietor, you also assume all the risks of the business. The risks extend even to your personal property and assets.
How Do You Know if You Have a Sole Proprietorship?
The simple answer is that if you are selling any type of product or service, on an ongoing basis, and you are not employed by another organization where you receive an employment income slip such as a T4, you essentially have a business. If this business in not incorporated or part of a partnership with one or more individuals, then you are a sole proprietorship.
A sole proprietorship can go by many different names including freelancer, self employed, independent contractor, small business, entrepreneur. The relevant feature of a sole proprietorship is that it is any type of business that is not incorporated.
Examples of Sole Proprietorships
There are various types of businesses that operate as sole proprietorships, such as:
If you sell web design or photography services in your spare time
If you sell goods on eBay on Etsy etc, on an ongoing basis
If you have a website that makes money from ads
If you have a website that makes money from affiliates
If you are a writer with one or more publications
If you sell your services on Upwork or Fiver or similar sites
If you receive donations as an individual for your work
If you are a driver for Uber or other ride sharing services
What Are the Responsibilities of Sole Proprietors?
Sole proprietors might have to register their businesses in the province in which they are located. This is usually dependent on provincial regulations and is discussed in depth in our post on registering your sole proprietorship in each province
Any business that earns income and is not incorporated is required to report its income on the T2125 form, on an annual basis, which forms part of the personal tax return.
All businesses that have sales exceeding $30,000 must register for sales taxes. There are some exceptions to this rule, which is discussed in detail at should you register for HST/GST.
Businesses may deduct reasonable expenses from the income that they earn. Many businesses have expenses that are common, such as rent, office expenses, telephone and internet expenses, and hosting for your website etc. Other expenses might be specific to the business type. For example:
Fees that you pay to Uber or other ride sharing services
Publishing costs for your book
Photography equipment
Commissions paid to intermediary sites such as Ebay, Etsy, or Fiverr for listing your goods or services
Cost of raw materials to make your product
Business that claim expenses should maintain copies of all receipts, bills, invoices, and other source documents. For more details on tax deductible small business expenses
What Are the Advantages of a Sole Proprietorship?
It is usually very straightforward to set up a sole proprietorship. If you use your first and last name, you are usually not even required to register and can start operating as a business right away. If you decide that would like to have a name that isn’t your full name for your business, then provincial registration is quite straightforward.
The accounting and tax reporting for a sole proprietorship is usually fairly simple and, in many cases, can be done by the business owner.
If your business loses money, this can be used to reduce your income from other sources and the corresponding taxes payable on your personal tax return.
What Are the Disadvantages of a Sole Proprietorship?
Since there is no legal separation between the owner and the sole proprietorship, the business owner is responsible for all the debts of the business. If you decide to stop running your business tomorrow, you are still responsible to pay any amounts owing to suppliers, the government, banks etc. In extreme cases, this can potentially put all your personal assets at risk, including your home and investments. This is different from a corporation where the liability is usually limited to the assets of the corporation and does not extend to the business owner.
A sole proprietorship might seem less professional than a corporation and as such might have difficulty getting contracts, bank loans, or even sub-contracts.
All profits from an unincorporated business are added to your personal income, which in turn raises your tax rates. There is no flexibility as to when you can declare profits. They are taxed in the year in which they are earned.
An unincorporated business does not benefit from the small business capital gains exemption, which means that if you sell your business you would have to report the sale price (less expenses) on your personal tax return as a capital gain. Conversely, a business owner who sells a corporation that qualifies as a small business is exempt from capital gains of approximately $400,000.
Starting a business in Canada is remarkably easy. You mostly need to have a marketable product or service and be aware of certain obligations. Often it makes sense to start your business as a sole proprietorship after which you can transition to a corporation if it make sense. Once you are armed with this knowledge, you can go ahead and start your business!
Is your goal to own and operate a Canadian small business or transition to self employment?
FASTSTART Your Business is the quintessential guide that takes the guesswork out of starting your business and focuses on what matters most. Inside, you’ll discover:
Step by step framework that tells you exactly what you need to do as a sole proprietor (which applies to ALL business and self employed owners unless your business is incorporated.)
Why most new businesses need to register and guidance on how to do it in every province.
What every business owner needs to know about sales tax (GST/HST and QST) , how to register and how to save money with the Quick Method.
What you need to know about hiring employees and how setting it up is easier than you think.
How to reduce taxes by reviewing the types of expenses that are deductible for small businesses and insights on preparing your income tax return even if you outsource it to an accountant.
How much you need to save in taxes so that you can be prepared and avoid unpleasant surprises when you do your tax return.
The different types of business structures and whether a sole proprietorship or a corporation is best for your situation.
And much more!
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