Business vs Self-Employed Income Tax in Canada

Employee or Self-Employed Worker?

Deciding whether a worker is an employee or a self-employed person is essential. Under the Employment Insurance Act, employment status explicitly affects an individual’s right to employment insurance (EI) benefits. It may also influence how a worker is handled under other rules, such as the Income Tax Act and the Canada Pension Plan.

The facts of the working relationship as a whole decide the employment status. The payer is called an employer, and the worker an employee in an employer-employee relationship. An employer that fails to deduct the necessary CPP contributions or EI premiums is liable for both the employer’s and employee’s share of any contributions or premiums owed, as well as fines and interest. Find out if you need to make payroll deductions for more employer information.

If the employee is a self-employed person, they must manage a business and be involved in a business relationship with the payer.

If you are self-employed, then you must know that filling self-employed is not complicated. In addition to reporting your income on your T1 General, all required is reporting your self-employed or business income on Form T2125, the Statement of Business or Professional Activities.

The filing deadline for tax returns and the need to pay into the Canada Pension Plan are significant differences for self-employed Canadians (CPP).

Business Income vs. Employment Income  

Business income includes money earned from a:

  • Profession
  • Trade
  • Manufacturer, or
  • An undertaking of any kind, an adventure or concern in the context of a trade, or any other operation that you carry out to earn a profit, given that evidence exists to support that intention.

Employment income includes money earned from:

  • Wages, or
  • Salary received from an employer.

Self-Employment Income Reported on Form T4A

You receive a T4 slip at tax time while you work for an employer. This slip shows you how much you earned throughout the year and gives you the numbers you need to fulfil your T1 return.

You may obtain a Form T4A, the Statement of Pension, Retirement, Annuity, and Other Income from your clients by the end of February the following year if you are self-employed or receiving business income. For each job, T4A slips include the total dollar amount.

Calculating Gross and Net Self-Employment Income Using Form T2125

You must complete Form T2125, Statement of Business or Professional Activities if you are self-employed. This form will help you determine your gross income for the year, which is the total amount of money you received. T2125 also offers the opportunity for self-employed Canadians to deduct allowable expenses from their gross income to minimize their taxable income so that they pay less in income taxes.

These deductions can significantly affect your bottom line when you are self-employed; you have to pay by decreasing the amount of tax.

On Form T2125, expect to provide the following details:

  • Your business income source.
  • Company overview, describing your products and services, and the field in which your organization deals
  • Revenue from business activities on the internet, including, but not limited to, affiliate sales, ad traffic revenue, and referral fees. The URLs of those sites must also be given as said by CRA.
  • Goods and Services Tax (GST)/Harmonized Sales Tax (HST) you paid and received
  • Expenses paid when trying to make a profit

Use the net and gross income figures after completing Form T2125 to complete your T1 return.

When you calculate it for tax purposes, you must include all your revenue. You will have to pay a penalty of 10 per cent of the amount you failed to report after the first omission if you fail to report all your profits. Failure to disclose income on multiple occasions will result in a penalty of up to 20%. The penalty will continue to double with repeated failures.

How much to Set Aside for Taxes

There is no accurate way of calculating the amount of money to be set aside for the year so that you can pay your taxes in full upon filing. However, when deciding how to remain on top of your tax responsibilities, several significant factors are considered.

The general rule is to set aside between 25% and 30% of your gross income for tax purposes. This range reflects the amount of money needed to pay the following taxes:

  • CPP
  • Federal income tax
  • Provincial income tax
  • GST/HST (if registered)

This number will change as your income fluctuates and as tax rates change.

Self-Employed Tax Rates

Federal tax rates for 2019 are: 15 percent of taxable income on the first $47,630, plus 20.5 percent of taxable income on the next $47,629 (47,630 to $95,259), plus 26 percent of taxable income on the next $52,408 ($95,259 to $147,667), plus 29 percent of taxable income on the next $62,704 ($147,667 to $210,371), plus 33 percent of taxable income above $210,371.

Contributing to The Canadian Pension Plan

Canadians between the ages of 18 and 70 with a net income from self-employment and a pensionable income of more than $3,500 would apply to the Canada Pension Plan (CPP). Regular employees contribute a certain percentage of their salaries over $3,500, up to a maximum annual contribution, while their employers contribute the same amount.

On the other hand, self-employed Canadians do not have their employers deducting CPP from their wages, matching that amount, and crediting it to the CRA because they are liable for both their portion of CPP and the amount that would have been deducted from their pay by their employer.

Self-employed Canadians must be ready to pay 10.5% of their income to the CRA up to a limit of $5,796.00 by 2020.

Self-Employment Deductions

Employ Expenses

To reduce the amount of business profits you owe, it’s vital to claim all of your business-related expenditures on your T2125. You’re not just lowering your tax bill, but you’re also creating the most comprehensive image of your company’s overall health. The following are some of the most common expenses for self-employed Canadians:

  • Advertising: Business cards, flyers, online marketing, etc.
  • Gas, maintenance, insurance, lease payments, repairs, cleaning, oil changes, and registration fees can all be deductible if you use your car to gain business profits. Vehicle expenses: At the beginning of the year and the end of the year, it is necessary to have your vehicle mileage figure and a travel logbook that correlates to a calendar.
  • Bank fees (a commonly overlooked deduction)
  • Pens, paper, paper clips, printer ink, etc., and other office supplies.
  • Business costs: You will be entitled to deduct a portion of your household expenditures at tax time if you run your business from your home. A part of your rent and utilities are included in this. Gather your electricity, heat, rent, protection, hydro, etc., bills, and receipts.
  • Cell phone: If you use your phone for work, you can deduct a part of the costs. Make sure you have all of your mobile phone bills on hand.

How Self-Employed Individuals can File Tax Online

If you’re new to the self-employment community, it can seem like a challenge to file your first tax return. Fortunately, there are a plethora of online tax products that make self-employment tax filing convenient.

These services pull any tax slips provided in your name directly from the CRA website and guide you through the T1 section of the return, then the T2125 reporting of business income, and finally, the fun part, the business-related expenses that minimize your owing business income.

Due dates

Your income tax return is due to the Canada Revenue Agency (CRA) by midnight on April 30, with complete payment. Your tax return is due to the CRA by June 15 of the following year (unless June 15 falls on a weekend or holiday) once you receive self-employment income, so any taxes due to the CRA are due by April 30.

The CRA will inform you if they determine that you must pay your taxes in instalments. Every year, instalment payments are due on March 15, June 15, September 15, and December 15. It shifts to the next business day if the due date is on a weekend or public holiday.

Relevant CRA Forms For Self-Employed Individuals

Self-employed business income is reported on Form T2125, Statement of Business or Professional Activities. This form will help you find out your gross income and net income (loss), which you’ll need to fill out on your T1 General Income and benefit return.

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