Deductions and Expenses for Small Business/Self Employed
Understanding what you can deduct as a business expense is one of the simplest ways to reduce your tax bill, but it’s also an area that many small business owners find challenging.
As a CPA who works with Canadian small businesses, solopreneurs and freelancers, I’ve written several articles to help you navigate deductible expenses so that you can claim what you’re entitled to and feel confident doing so.
On this page, you’ll find a collection of my blog posts and resources explaining which expenses are eligible, how to claim them, and how to stay organized throughout the year.
Want to stop second-guessing your deductions?
My Small Business Guide to Maximizing Tax Deductions Masterclass helps you confidently identify what you can claim, avoid costly mistakes, and reduce your tax bill, all in one clear, practical session designed for Canadian solopreneurs and small business owners. You’ll walk away knowing exactly how to maximize your deductions and keep more of your hard-earned income.
If you’ve tried to sign up for a service recently, chances are that you will be directed to a monthly subscription. The monthly price seems attractive, since it is likely lower that the lump sum that you would have paid in the past. You sign up and think that you will cancel in a month or two once you have extracted the value that you came for. But, it often isn’t that easy. These memberships are designed to keep you subscribed by drawing you into an ecosystem that can be difficult to leave without disrupting your workflow.
As a business owner, one of the upsides of subscriptions and/or memberships is that you can usually deduct it as a business expense as long as it’s directly related to earning business income (and it isn’t specifically excluded).
One of the more unpleasant aspects of being a business owner is having to chase clients that do not pay. It is frustrating, stressful and disheartening, while attempts to collect are an unproductive use of time and can have a significant impact on cash flow, particularly if you are unprepared. A bad debt, in accounting terms, refers to an amount charged to a customer that is never paid. While the original sale would have been reflected as revenue, the uncollectible bad debt would then have to be written off as a separate line item on the profit and loss statement
While being self employed comes with numerous benefits, there are also many challenges. One of the major ones is ensuring that you are aware of, and fulfill, your tax obligations on a timely basis. In the beginning these tax obligations can seem mystifying and somewhat overwhelming, but once you understand what needs to be done and you set up processes and reminders, it tends to become much more manageable. This in turn reduces stress as tax deadlines approach and can result in significant potential tax savings as you keep track of all your tax deductions and avoid interest and penalties.
Frequently a client of mine will purchase a high ticket item such as a computer or a piece of furniture and will simply show it as an expense on their profit and loss. Since you purchased something that relates to your business, it should be considered to be a deduction and classified as an expenses.
Unfortunately, accountants and revenue agencies do not see it this way. From their perspective, an item that is purchased for a business, whose value extends beyond one year, is actually an asset that should be depreciated over the useful life of the asset. In other words, the expense that you can claim for the asset is only the portion of the asset that is used in the year that you claim it.
While accountants refer to the amount of the asset that is expensed each year as depreciation, Revenue Canada refers to this as capital cost allowance or CCA.
Small business owners who need a vehicle to carry on their business are fortunately able to benefit from a tax deduction for the business use of their car. But given the potential for abuse, the CRA’s rules around vehicle expenses are specific and cover what counts as business use, which expenses are allowed, how to calculate your deduction, and how things differ depending on whether you lease or buy.
While deciding whether to lease or buy a car can be a tough decision for anyone (a Porsche does seem so much more affordable when you lease!), it’s even more challenging for small business owners, who also need to consider the tax implications.
Most taxpayers use the terms tax deduction and tax credit interchangeably. Since they are not accountants, this is perfectly fine unless you are particular about precision and strive for a greater understanding of tax. And while there a numerous technicalities and jargon in tax that are better left to tax professionals, this particular distinction is fairly straightforward , can useful to understand and might even save you some tax.
So, what is the difference? A tax deduction is a reduction of your net income on which your taxes payable are based, while a tax credit is a direct reduction of your taxes payable. These might sound very similar, but their impact on how much tax you pay is different. Since there are different tax brackets, a tax deduction results in a reduction of your taxes payable effectively at the highest tax bracket to which your income applies, while a tax credit (for simplicity we are only talking about the federal portion and not provincial) will only reduce your taxes by 15%, which corresponds to the lowest tax bracket. While this can get significantly more complicated, suffice it to say, if your income exceeds approximately $50k, tax deductions have a higher value i.e. they reduce your taxes by a greater amount than a tax credit since part of the $50k will be taxed based on a higher tax bracket.
Deciding to transition from being an employee to self-employed business owner/freelancer/independent contractor. can be a significant life event. It can certainly be exciting as you relish the thought of greater freedom, flexibility and the ability to exercise your creativity in ways that you cannot when you are an employee. However, there is also a great deal of uncertainty, both professionally and financially. And while you cannot control the outcome, understanding where the uncertainty might come from will help you be much better prepared.
Being a small business owner comes with challenges, not the least of which is doing your taxes. While most Canadian taxpayers have relatively simple tax returns that can easily be completed using software, small business owners have the additional burden of reporting details relating to their businesses. This can seem onerous, but understanding what needs to be done, and when, can significantly help reduce the stress and ensure that the tax filing process is smooth and straightforward.
One of the types of income on which you pay income taxes is what Revenue Canada (CRA) refers to as “income from self-employment” that is essentially the same as income from a small business. If you do have business income, then you are required to declare your business income on a tax return. As an unincorporated small business owner, this business income is reflected on a separate schedule on your personal tax return. The schedule is called a T2125, which is a “statement of business activities” (discussed below) and at minimum requires that you show any income you earned from a business venture. If you have incurred expenses to earn the business income, you may also deduct these from your gross revenues or sales to arrive at net income from business. Unlike a simple personal tax return with no business income, the information that must be reported on a T2125 is generally not simply provided to you on a tax slip, such as a T4 or T5, but must be compiled and calculated.
Probably the most popular question posed to accountants and tax preparers (especially around this time of year) is what types of expenses are deductible. The short answer is that an expense is considered to be deductible if it has been incurred with the ultimate purpose of earning income. For example if you purchase a domain name with the intent of setting up a website to sell your goods or services, this would be a deductible expense. However, if the purpose of your website is simply a place to show pictures of your cat, this would not be considered a business and therefore not a deductible expense. Of course if your cat picture website starts to become popular and you decide that you want to actively build this business by advertising on the site or partnering up with cat product resellers, your non commercial hobby could then be considered a business. Since you now have the intent to build a business the income earned would have to be reported and expenses incurred to earn this income would be deductible.
If you use your car for business then you will want to track car expenses more granularly to see what you have spent in the current period and to compare with prior periods and also to make it easier to reflect the breakdown on your small business taxes
In the past advertising for small business owners mostly involved ads for print, television or radio (a catchy jingle was always a good way to go), cold calling (rarely a pleasant experience), sending out flyers or courting potential customers at a conference. Unfortunately, these types of advertising were problematic in that it is difficult to gage the direct impact of their effectiveness. Additionally, they were often fairly costly, which can especially difficult for small business owners to afford.
Over the past few years the avenues for advertising have grown exponentially. Many types of advertising don’t even cost anything, except time. You can buy ads on numerous social media outlets that appeal to your target market or if you want to go the free route, you can set up a social media account, post regularly and build an audience. Alternatively, you can set up a website which you can then optimize so that google and other search engines display it when someone is looking for your product or service. Email newsletters are also another effective and direct way of reaching potential buyers. One of the great benefits of these types of advertising is that you are better able to monitor the effectiveness of your chosen strategy.
Access to a car can be crucial to running a small business effectively. Costs of ownership, however, can be high relative to your revenues, especially in the early stages when your business is not hugely profitable. Luckily, Revenue Canada (CRA) and Revenue Quebec (RQ) allow both unincorporated/self employed individuals and owners/employees of corporations, who use their cars to generate income, to deduct the relevant expenses. Both CRA and RQ provide detailed guidance and have specific rules relating to the write off of car expenses. I discuss some of the main provisions that impact small business owners in this article and provide guidance on the differences between unincorporated (self employed/small business) owners and corporations.
The majority of businesses require the use of cars and other types of vehicles to meet with clients, and suppliers, purchase goods, make service calls and of course check in with their accountants. The usage of a car is not necessarily straightforward as many employees and business owners use their vehicles for both business and personal reasons. As such, Revenue Canada has had to implement tax legislation that ensures that the personal portion of automobile usage is properly adjusted and excluded from deductible businesses expenses.
Giving gifts to clients or customers can be a great way to build goodwill, foster customer loyalty and differentiate yourself from your competition. Gifts can be anything from a simple bouquet of flowers to something a bit more personalized based on your knowledge of the customer (it can be useful to listen carefully or probe gently to find out what your customers might want as a thoughtful gift can be tremendously impactful). A gift can be given around the holidays, on birthdays, after closing a sale or any other time as a simple thank you. Of course, if you are buying gifts on behalf of your business, it is important to understand if they qualify as tax deductible expenses and it what circumstances.
One of the benefits of having a home based business (for freelancers, self employed contractors and small business owners) is that you can deduct the expenses relating to the space that you use to work. This can result in a reduction in your tax bill for costs that you would incur regardless, which is certainly an incentive to being your own boss.
Criteria for Deductibility:
For home office expenses to be deductible, they have to meet the following criteria:
It has to be your principal place of business i.e. you cannot deduct home office expenses if you have another office that relates to your business, elsewhere, even if you work 22 hours a day or you check your blackberry in bed.
The space designated as your home office is used to earn business income and/or you meet clients or customers on a regular basis. You can deduct expenses relating to the workspace in your garage which is used for home improvement projects.
Whether an expense is quite clear for the majority of expenses – salaries paid to employees, office rent, manufacturing supplies etc. , there are a handful of expenses that are more ambiguous. One of the more notable (and often asked) examples of this type of expense relate to personal attire including clothing, shoes and other personal maintenance costs (haircuts, beauty products etc)
Attending conferences and investing in ongoing training can be a great way for small business owners and the self employed to keep current on industry developments, ensure ongoing professional development and improve their skills. It also allows for networking opportunities and occasionally includes trips to exotic locations, which can be a welcome change in environment from working at your office. As an added bonus ,the cost of conferences, conventions and seminars as well as corresponding travel expenses are deductible against your business income, subject to specific guidelines.
In a recent study by H&R Block, nearly 28% of Canadians reported taking on a side hustle in the “gig economy” to boost their income. This is a significant increase from 2022 in which the analogous percentage was 13%. This is likely a result of inflationary pressures and the expansion of opportunities available for flexible work.
The gig economy, popularized by Uber, refers to work that is flexible and usually incorporates digital apps or platforms.
Gig workers tend to be independent contractors who usually decide when they are going to work, often bring their own “tools” (such as a car or a computer) and are required to report their earnings to tax authorities.
The self-employed lifestyle holds great promise when you first start being self employed, however you quickly find yourself doing things that you would never have dreamed of. You are expected to take on role of salesperson, market researcher, accountant, lawyer and social media expert, while not getting paid for any of it. Your available funds do not allow for outsourcing and at times you are not even aware of what you don’t know. Luckily the internet provides a wealth of tips and tricks to make these tasks easier, and you might actually find that you enjoy taking on some of these challenges. Ensuring that you keep on top of your finances and tax obligations is among the most important of these tasks for which it is essential to have a system in place so that you can maximize tax deductions, minimize taxes payable and reduce amounts that you have to pay to CRA and RQ.
Starting a business is hard work. In addition to creating your core product or service , you also need to have a working knowledge of numerous other facets of business including marketing, IT, accounting and operations . In the early stages cost constraints may prevent you from hiring additional staff or even outside contractors to handle some of these roles may not be an option. Consequently, you are faced with the daunting task of having to learn as much as possible in a short period of time. And although there is a great deal of information available via an internet search, it is easy to overlook something or make mistakes given a lack of experience and expertise or simply the right questions to ask. This is especially true with respect to the more technical aspects of business such as accounting and tax.
Budget limitations and inexperience can make hiring new employees a difficult decision for small business owners. Luckily, If you are a startup or a small business in Canada, there are numerous programs that can help you get up and running. Some programs provide help with your cash flow in the form of financing, grants, subsidies and tax credits while others provide resources such as training, mentoring and coaching. Many small businesses particularly when they are in the startup stage should take the time to research these programs and send applications to the ones that might be applicable. Below are a list of three popular programs that are worth exploring further:
Note that the programs listed below are independent of COVID. For a list of COVID related wage subsidies and tax credits, please see the Government of Canada website
A great many fortunes have been made in real estate. Conversely, as was evidenced in 2008 with the deflation of the housing bubble, many fortunes have also been spectacularly lost. Fortunes aside, owning real estate is one of the best ways to build equity. If you own your home, you are already one step ahead. With rental property, you can further augment your net worth if after investing the necessary down payment the rental income covers and/or exceeds the mortgage payment and related expenses, (Leaving you free to move on to buying your next property). This is not a decision to take lightly as with any investment there are several business and tax factors to consider before taking the plunge:
Self-employed Canadians, unlike employees, must contribute both the employee and employer portions of CPP or QPP. These contributions can add significantly to your taxes, so it’s important to factor them into your estimates. In this article, you’ll learn how contributions are calculated, when they apply, and what they mean for your retirement.