For business owners, six tax-saving strategies for the year-end checklist
Tim Cestnick is president and CEO of WaterStreet Family Wealth Counsel and author of 101 Tax Secrets for Canadians.
You've got to love entrepreneurial success stories. Take Ben & Jerry's Ice Cream, for example. Ben Cohen and Jerry Greenfield started their ice cream empire with $8,000, a correspondence course in ice cream making, and a town short on ice cream vendors.
Then there's Seth Goldman, who started by brewing tea in his kitchen, storing it in Thermoses, and making a pitch to Whole Foods Market after five weeks of experimentation. He received an order for 15,000 bottles that day and his organic tea business, Honest Tea, was born.
Finally, there's my good friend Joel's cat-walking business. No, he hasn't made his millions yet, but he's working on it and does see promise: He met another cat owner who does walk his cat regularly.
What do all of these business owners have in common? Good tax planning. Today, let me share some year-end tax strategies for business owners.
1. Review your compensation mix
As we approach year end, consider the optimal mix of salary and dividends for 2012. There's no best answer here for everyone, but you should consider your personal marginal tax rate and that of your business, registered retirement savings plan (RRSP) contribution room (a salary of $132,333 in 2012 provides the maximum in contribution room for 2013), and provincial health or payroll taxes.
As a general rule, if you don't need the cash and your company has a lower tax rate than you, consider leaving the cash in the corporation. Finally, if you live in Ontario, don't forget about the new, high-earner tax on income over $500,000; you might consider deferring the payment of salaries, bonuses and dividends until the tax is repealed, which has been promised by the government.
2. Pay salaries to family members
If a family member has provided services to your business, consider paying them reasonable salaries or bonuses before year end if they will pay less tax than you or your business. An individual can earn up to $10,822 in 2012 and pay no tax federally. So, your business can claim a deduction and there may be little or no tax owing by your family member. This strategy will also provide income to your family member to create RRSP contribution room, allow for child care deductions, and make contributions to the Canada Pension Plan if the hope is to collect CPP later.
3. Pay tax-free amounts where possible
If you own a corporation, there may be ways to withdraw funds from your company on a tax-efficient basis. Consider taking a repayment of loans you might have made to the corporation, paying yourself tax-free capital dividends if your company has a balance in its "capital dividend account" (which is the case most commonly when the company has realized capital gains in the past), returning "paid-up capital" that you've invested in the company, or paying yourself rent if the company occupies space in your home (this income could be offset by common expenses, such as a portion of mortgage interest, property taxes, utilities, repairs, etc.).
4. Manage your shareholder loans carefully
If you've lent money to your company, consider whether it makes sense to charge interest on those loans. This may be the case where the company needs deductions to keep its taxable income below the small business threshold ($500,000 federally) in order to keep its tax rate down.
And if you've borrowed money from your corporation, consider repaying those amounts to avoid paying personal tax on those loan amounts (in some cases it can make sense to borrow money to repay these loans; speak to a tax pro about other ideas).
5. Take steps to protect your business assets
If you own assets, such as real estate or intellectual property, that you use in your business, consider separating that ownership from your business operations by placing those assets in a holding company to protect them from creditors of the business. Also, if you have excess cash in your corporation, consider paying those amounts as dividends to a holding company and then lending the funds back on a secured basis if needed in the business operations. This will give your holding company a claim on the assets of the business, protecting those assets from third parties.
6. Time the purchase and sale of capital assets
Finally, if you're purchasing capital assets, consider doing so, and putting those assets to use, before your business year end to begin claiming capital cost allowance (CCA) sooner. If you're selling capital assets, consider delaying the sale until after your year end to claim CCA for one additional year.