How Corporate Taxes Work in Canada 🍁 | Learn the Benefits of Incorporating📈

hey everybody Joe here from Avalon and welcome to part two of our two-part series on how Canadian taxes work in this video I'm gonna dive into our taxation for corporations I would like to invite you all to come along with me on a journey I'll explain the important tax Concepts you need to know about when running a business through a corporation in Canada we'll look at how corporations are taxed the tax benefits of incorporating your business how to pay yourself from your Corporation common pitfalls that we see for corporate businesses and some disadvantages of incorporating your business so all that and nothing else coming right up [Music] now I know taxes might not be the most exciting topic for everybody but trust me when it comes to your hard-earned money understanding how taxes work is essential that's why we're focusing on corporate taxes and how they impact small business owners like you to make things more relatable let me introduce you to Pam ah this is our receptionist pam pam bam so Pam is a talented artist who has been self-employed for a while now lately her business has been growing and she's considering incorporating throughout our discussion we'll use Pam's Journey as an example to help explain various aspects of corporate taxes in Canada so grab your favorite caffeinated beverage and let's dive into the world of corporate taxes together alright let's kick things off with understanding the concept of a corporation in Canada when you incorporate your business you're creating a separate legal entity it's kind of like your business becoming its own person this new person has its own rights obligations and of course pays taxes separately from you the owner one of the key benefits of this separation is limited liability in simple terms this means that if your corporation faces Financial or legal issues your personal assets like your house and car are generally protected sounds pretty good great I just think it's great now if Pam Incorporated and was sued for painting slanderous images her personal assets would likely be protected not that she would ever do that next I'll talk about the concept of integration in Canadian tax integration is a fancy term for making sure that business income is taxed fairly whether it's earned in a corporation or by an individual the idea is to ensure that at the end of the day the total tax paid on corporate and personal income is roughly the same think of it like a balancing act between corporate and personal taxes it exists to ensure that no one is unfairly burdened or has an unfair Advantage so then if it's all fair and there aren't supposed to be any tax advantages you might be wondering what are the benefits to incorporating in Canada I don't know I don't know firstly it comes down to tax timing we have lower tax rates for small businesses in Canada small business corporations enjoy a reduced tax rate on their active business income which means more money stays in the business for gross with an investment this could be a game changer for someone like Pam whose art business is expanding the lower corporate tax rate means you get to keep more of your money for longer by deferring tax Pam could leave profits in the corporation instead of withdrawing that cash the funds would then be subject to the lower corporate tax rates until she eventually wanted to take the money out personally she can then strategically withdraw money when it's most tax efficient for her to do so it's like having a little more control over your tax destiny I control my destiny another fantastic benefit is the lifetime capital gains exemption or lcge for short when it's time to sell your shares in your small business Corporation you could be eligible for an exemption on a portion of the taxable gains that exemption is nothing to sneeze at either Pam could sell her corporate shares at a gain of nearly one million dollars before paying any tax at all pretty good that means more money in her pocket when she decides to sell her successful art business picture finding Mary Swanson's briefcase and not having to drive to Aspen to give all that money back that's kind of like the lcge slippy Slappy swimming salmon Simmons Swenson Swanson maybe it's on the briefcase look on the oh yeah it's right here Samsonite I was way off there's some specific criteria that you'll need to meet for the lifetime capital gains exemption to apply but it can apply to the majority of Incorporated small business owners in Canada check out the link in the description below for more info on how to qualify for the lifetime capital gains exemption now that we've covered the basics and some benefits of incorporating let's dive deeper into how active business income is taxed inside a corporation in Canada active business income refers to the income generated for your business's day-to-day operations for Pam this would be income from selling her artwork um you want to buy it well yeah yeah we have to have it for the office in Canada there's a small business tax rate which is lower than the General corporate tax rate this small business tax rate is available to Canadian controlled private corporations or ccpcs a ccpc is a type of private Corporation in Canada that is owned and controlled by Canadian residents in simpler terms it's a company that is not publicly traded on a stock exchange and the majority of its Shares are held by Canadians it's also the type of company that Pam would likely be using in 2023 this reduced corporate tax rate applies to the first five hundred thousand dollars of that active business income that I just discussed and that's five hundred thousand dollars of net income for pam pam could sell a million dollars worth of her artwork deduct 500 000 of expenses and have five hundred thousand dollars of net income the lower small business rate would then be applied to her five hundred thousand dollars of net income so if Pam incorporates her art business she could benefit from these lower tax rates and have more money to invest back in her business it's kind of like you're giving her business a little boost just when it needs it yes this is business the the business of team building and morale boosting next up let's discuss how investment income is taxed inside a corporation investment income is the income earned from things like interest dividends or capital gains on investments held by your corporation if Pam's art business is doing well and she has some extra cash she might decide to invest in stocks or bonds through her Corporation the tax treatment of investment income inside a corporation is a bit different from active business income generally investment income is taxed at a higher rate however a portion of the taxes paid on investment income can be refunded when the corporation distributes the income as dividends to the shareholders this way the concept of integration that we discussed earlier still applies this video doesn't go into much detail on investment income but check out the corporate tax rates Linked In the description below for more info on investment income tax rates now let's talk about how to pay yourself from your corporation you have a few options here taking salary receiving dividends or a combination of both if you choose to pay yourself of a salary your corporation gets a tax deduction for the amount paid and you pay personal income tax on that salary this option could be helpful for Pam if she needs a consistent income or wants to contribute to her rrsp this could help Pam save for retirement or qualify for a mortgage because I have a mortgage now gotta bring home the bucks on the other hand if Pam decides to pay herself through dividends she won't get a tax deduction in her Corporation however Dividends are taxed at a lower rate on her personal tax return due to the dividend tax credit in some scenarios dividends can be more tax efficient but keep in mind they don't count as earned income for rrsp purposes now that just means that they won't increase your rrsp contribution room like paying yourself wages does it's all about finding the right balance for your individual needs in Pam's case she might want to consider a mix of salary and dividends depending on her personal financial goals and tax situation we have a thorough video on paying yourself from your corporation again Linked In the description below we talk about the pros and cons of salary and dividends and show how easy how to easily compare taxes owing under each option it's a good one so don't skip this topic if it's relevant for you alright so that's enough of the positive stuff let's get into the negative stuff and it pains me to see all all of the negativity festering first up on the negative side I'll touch on a few disadvantages of running your business through a corporation one downside is the increased Administration and compliance costs incorporating means additional paperwork annual financial statements and corporate tax returns these added costs and responsibilities can take up quite a bit of time for the owner additionally incorporating could mean losing out on certain personal tax credits and some credits are only available to individuals and not corporations check out our video on how personal taxes work in Canada for all the details on tax credits and deductions available to individuals another disadvantage is that losses can sometimes be more difficult to take advantage of in a corporation it's not uncommon for startup businesses to incur losses at first so when you operate your proprietorship and incur a loss you could deduct that loss against your other personal income if you're operating that same business through a corporation the loss could not be applied to your through your personal income instead the loss can only be applied to another Year's corporate tax return to reduce tax within the company only so if Pam ended up sustaining losses in the company it would be more difficult for her to use them to reduce her taxes than a self-employed person now that we've looked at both advantages and disadvantages we should briefly touch on some potential pitfalls when running a business as a corporation this way you'll be prepared if you decide to incorporate your business first up inadequate tax planning can lead to unpleasant surprises it's essential to stay on top of your tax obligations and work with the tax professional to optimize your situation it can be easy to take dividends from your company and forget that you will have to pay personal income tax on those dividends that's a common scenario that that can lead to a surprise personal tax bill in April Pam will want to plan ahead to avoid spending the money that she may actually need later to go towards her personal tax bill next be aware of passive income limits earning too much investment income inside your corporation could lead to a loss of the small business tax rate which we discussed earlier Pam and anyone else in this scenario would need to be mindful of their corporation's investment income to avoid this issue finally it helps to avoid using corporate assets for personal use as this can result in additional taxes and complications for example if Pam's Corporation buys for a car for personal use she might face a taxable benefit that needs to be reported on her personal tax return for more details on personal use of corporate vehicle check out our video on corporate cars Linked In the description below it's essential to weigh these negative factors against the benefits of incorporating to make an informed decision so what does all this mean for Pam and her decision to incorporate well incorporating could provide Pam with limited liability protection from potential art related disasters thank you incorporating can provide lower tax rates on her active business income and the ability to strategically plan her personal income however she must also consider the potential pitfalls increased administrative costs and the loss of personal tax credits each business owner situation is unique and it's a good idea to chat with a tax professional when making the final decision to incorporate alright so that's it for this video on corporate taxes in Canada I hope you found this useful and maybe even a little bit interesting we love helping small business owners and creating these videos is just one way that we do that so if you're not subscribed to the Channel please consider hitting that subscribe button really motivates us to put out more useful content and if you want to hear for more more from me personally I send out a mostly Weekly Newsletter about building a business here in Canada so thanks for watching and we'll see you in the next video cheers

Channel: Avalon Accounting

Views: 21,606

Keywords: Small Business Accounting, Small Business Bookkeeping, Small Business, Canadian Small Businesses, Online Accountant, Online Bookkeeper, Business Advice, Accounting Advice, Corporate Tax, Business Taxation, Tax Tips, Canadian Tax Tips, Build a Business

Id: 0HpwqLq8CzU

Length: 12min 10sec (730 seconds)

Published: Wed Apr 05 2023