Small Business Taxes in Canada: A Complete Guide

Small businesses are the heart of Canada's economy. As a small business owner, you may be handling several transactions, but when it's time to file returns and keep up with your tax liability, things may seem new to you.

Your transactions will be subject to taxes and, regardless of whether your business is profitable, filing a tax return is mandatory. Failing to follow through with your tax liability can lead to penalties, fines, and even criminal charges. Knowing the different kinds of taxes in Canada and how they can affect your business will help you stay aware of your tax liabilities, plan better, and save more money. For example, you may be able to apply a loss you've made in a fiscal period to your income in order to offset your total tax liability.

Right from the tax benefits and deductions that you can claim to what liabilities are applicable for different business structures, here's a complete guide to taxes in Canada.

Taxes in Canada: A quick glimpse

In Canada, you have to pay tax at the federal level (Goods and Service Tax, or GST) as well as the provincial or territorial level (Provincial Sales Tax, or PST). Due to this tax structure, each province has a separate tax regime. For example, five provinces have adopted Harmonized Sales Tax, which combines PST and GST into a single tax for relevant transactions. All of these taxes under each regime have to be collected from your customers and remitted to the Canada Revenue Agency (CRA).

Note: The provincial sales tax in Quebec is specifically called Quebec Sales Tax, or QST.

Taxes that impact small businesses
Goods and Services Tax (GST):

GST is a 5% value-added tax that is applied to the sale of goods and services. This tax applies across Canada and is often combined with other taxes, but some provinces (Alberta, Northwest Territories, Nunavut, and Yukon) only use GST as their tax.

Provincial Sales Tax (PST):

PST (also known as Retail Sales Tax) is a tax that applies to the retail sale of taxable goods and services. Along with GST, businesses located in a province or territory that have a provincial sales tax will have to charge, collect, and remit this tax, unless the product or service is PST exempt. PST varies according to the province you're in.

Harmonized Sales Tax:

Also known as the harmonized federal-provincial tax, HST is a tax that's levied when PST is combined with GST. New Brunswick, Newfoundland and Labrador, Nova Scotia, Ontario, and Prince Edward Island have a harmonized tax system. This means that when you sell retail goods and services in these provinces, instead of charging GST and PST separately, you can simply charge the single HST.

Note: British Columbia, Manitoba, Quebec, and Saskatchewan consider PST separate from GST, so these two taxes are charged separately.

Generally, groceries, prescription drugs, and healthcare services are exempt from GST and PST, but some sales that are exempt from one tax are not exempt from the other, so those exempt from GST may be subjected to PST.

Corporate tax:

The standard federal tax rate for corporations is 38% of their taxable income, and after the federal tax abatement, it's lowered to 28%. However, small businesses in Canada get a lucky shot at reducing the taxes they pay when filing corporate taxes with the CRA.

This tax benefit is called Small Business Deduction (SBD), and it provides businesses with a deduction on taxes that are payable on annual income up to 500,000 CAD. The credit applies in such a way that the effective federal income tax rate for small businesses is 9%. This is a deduction of 19% from the corporate income tax rate of 28%.

To be eligible for this small business deduction, you must be a Canadian Controlled Private Corporation. In other words, you must be a private corporation within Canada and not controlled by non-residents or public corporations. You must also have less than $15 million of taxable capital employed in Canada.

For other types of corporations in Canada, the corporate tax rate is 15% after the general tax reduction.

When to pay taxes

You will have to start paying taxes via quarterly installments after your first year of completing business. Your GST/HST return form (Form GST34-2) will show your due date at the top. The due date of your return is determined by your reporting period, which can be monthly, quarterly, or annually.

If it's monthly or quarterly, you will have to pay taxes and file returns one month after your reporting period ends. For instance, if your reporting period ends on September 15th, you have to pay and file returns by October 15th.

If you have an annual reporting period ending on December 31st, you have to pay by April 30th and file returns by June 15th. If the period doesn't end on December 31st, you have to pay and file returns three months after the fiscal year-end. For instance, if your reporting period ends on March 31st, your payment and filing deadline is on June 30th.

In general, the due dates for Canadian tax returns, as well as the due amount, depend on how your business is structured.

Business structures in Canada

Sole proprietors and partnerships

As a sole proprietor, your income will be taxed at your personal income tax rate, so you will have to report your business income on the T2125 form, which is part of the T1 personal income tax return. If your business is facing a loss, you can deduct the losses from your personal income, thus lowering your tax bracket.

A partnership also doesn't file a tax return or pay income tax as a group. Instead, each individual in a partnership has to file their own income tax return based on their personal agreed share of the partnership's profits or losses. For such sellers, June 15th is the last date to file the Canadian income tax return. Even if you aren't filing your return until 15th, you should pay your due income tax by April 30th to avoid penalties.

Both sole proprietors and partners must file individual returns regardless of whether there's any business income to report. If you're a sole proprietor or partner, you can choose a fiscal year other than the calendar year after applying to the CRA, but you have to ensure that all members in the partnership choose the same fiscal year. If one of the partners is in another partnership or involved in an incorporated business, the fiscal year can't be changed.

Incorporated businesses

All corporations, including non-profit and tax-exempt organizations, have to file a T2 return regardless of whether they owe taxes. However, tax-exempt Crown corporations, Hutterite colonies, and registered charities don't have to follow this.

If your company is incorporated, you’ll need to pay businesses taxes on your organization’s overall profits and then pay personal income tax on your salary. You need to file a T2 tax return every year, even if your company doesn't owe tax. An incorporated business is its own legal entity, which limits your liabilities. You can access lower tax rates due to deductions and split income tax, and redeem capital gains exemptions if you sell the business. 

You should report your business income annually, generally on a calendar year basis. You can choose any date for your fiscal year-end, but if this corporation still owes balance on its corporate income tax, that tax balance must be paid within two months after the fiscal year-end.

The corporation has to file its income tax return within six months after the tax year (fiscal year) ends.

• When the fiscal year ends on the last day of the month, the return is due by the last day of the sixth month after the tax year ends. For instance, if your tax year ends on April 30th, you will have to file returns by October 31st.

• When the fiscal year ends on a day other than the last day of the month, the return is due by the same day of the sixth month after the tax year ends. For instance, if your tax year ends on August 16th, you will have to file returns by February 16th.

Online sales

If you make sales within your own province or territory, you should follow the tax rules applicable to your province or territory. For example, Ontario businesses charge a 13% HST while selling online to an Ontario customer.

If you make sales to customers in another province, you must use the HST rate of the shipping destination.

Claiming business expenses as deductions

You can claim business expenses while filing your T2125 form. If you're a GST registrant, you can claim the GST/HST on that expense as an Input Tax Credit (credits that businesses can claim for sales taxes paid on items bought for the production of other goods and services).

Note: Refer to the CRA website to find out if a particular expense qualifies as a Canadian income tax deduction (such as capital cost allowance, registered retirement savings plan, scientific research and experimental development, gifts to employees, etc.) and the rules for claiming that expense.

While keeping track of your tax liabilities and claiming your deductions, make sure to store records of your transactions. They can come in handy in case you need to prove your claims or ascertain your liability. Staying tax compliant is smooth if you keep all these in mind, while also having the right software to help you with it all. Propel your business forward by using Zoho Books to ease your accounting process and maintain compliance.