2015 STS – March – Finance Matter! Series
When we first met, Merry had been speaking professionally part-time for three years. She was now ready to speak full-time and was bouncing off the walls with excitement about the move. But she wondered how to structure her business to make it tax efficient including whether or not she should incorporate.
“Merry, there were three things which would make incorporation worthwhile,” I said. “Potential tax deferrals and different treatment for both vehicle and for meal expenses.
“As a proprietor, you report your business income and expenses on your tax return. Your taxes increase as taxable income (income after expenses) increases. For example, with taxable income of between $45,000 and $90,000 in Alberta, your tax bracket is 32%, which means you keep 68% of your taxable income. However, if your company is incorporated, you may defer personal taxes by leaving the income you don’t personally need at the moment in the company, taking it later when required. For example, the corporate small business tax rate in Alberta is 14% so the company keeps 86%, giving you an 18% tax deferral by incorporating.”
Merry liked the sound of incorporating, but asked “What are the pros and cons?”
“The primary con is higher accounting costs,” I said. “As an incorporated entity, Merry, you will need annual financial statements, corporate tax returns and T4/T5 returns. These could cost $200 or more per month, depending on volume and records. You will also have initial incorporation costs of approximately $1,000 and annual costs related to your incorporated company’s annual return which is required for corporate registries.”
“What are the pros to incorporation?” Merry asked.
“Merry, you will keep more ‘jingle in your jeans’. When incorporated, you will receive a 100% reimbursement from your company for all business expenses paid personally. This gives you dollar for dollar back, versus as a proprietor where you would only receive the tax savings.”
“What about vehicle expenses,” Merry asked. “How are they different under incorporation?”
“You said you travel a fair amount. You would certainly benefit from the different tax treatments available to corporations for vehicle and meal claims. As a proprietor, you would track both your kilometres (total and business-related) and your vehicle expenses to determine the percentage of expenses you may deduct.
“If you are incorporated and providing the vehicle, the company will pay you a per/km tax-free allowance. For example, the allowance for 2015 is 55¢/ km for the first 5,000 kilometres and 49¢/ km for the balance. You would be responsible for paying your own vehicle expenses, but typically would receive more tax free dollars from the allowance than you would pay in expenses. Also, if receiving an allowance, you don’t have a restriction limiting the amount of depreciation or leasing costs on cars costing more than $30,000.
“Another option would be for your company to own or lease a vehicle and pay all the expenses. But you must still track the annual total business-related kilometres as there would be a taxable benefit added to your T4 for personal use.
“Let’s look at another example to help you decide whether you provide the vehicle or to have the corporation own it. Frank recently incorporated and was contemplating transferring his 2013 Maxima to the company. The car’s odometer registered 100,000 and Frank drove 40,000 annually for business. The car had annual vehicle expenses of $8,000 and the depreciation for the year would be $5,000.
“In Frank’s case, he would be ahead by claiming the allowance which would be approximately $20,000. This would net him $7,000 tax-free from the allowance after paying his expenses and allowing for depreciation. If Frank sold the Maxima to the company, the company would deduct $13,000 (expenses and depreciation) versus the $20,000 allowance. Frank would lose the tax free $7,000 in his pocket so the allowance would be his better option.”
“That sounds great for when I drive, but what about when I fly and meals on the road or with clients?" Merry asked.
“As a proprietor, you claim actual meal costs as an expense. If incorporated, your company would reimburse 100% of your meal cost compared to the tax saving of 16% (50% of the 32%) mentioned above as if you were a proprietor.
“It is a good idea to have a company travel policy where the company reimburses employees for travel meals at the greater of the actual meal expenses (receipts required) or the current meal allowances of the National Joint Council (NJC) where no receipts are required. If your actual expenses are lower than the allowance, you keep the difference in your jeans. This allowance is only applied to travel meals, business meals with clients, etc. and the actual meal costs are subject to the 50% reduction.”
“What are NJC rates?” Merry asked, puzzled.
“NJC sets the federal government rates and reviews them in April and October.
The Oct 2014 allowances are:
- breakfast $15.75
- lunch $16.35
- dinner $42.20
- or $74.40 per diem.
Your policy would include: an incidental allowance of $17.30 per diem for when you are away overnight and $50/night for non-commercial accommodation when staying with family or friends.”
Merry said, “I typically spend $50/day for meals, so incorporating would allow me to claim an extra $40/day - $25 + $17 - for the 60 days a year I am on the road?”
“Exactly,” I replied.
“This deduction alone would cover the added costs of being incorporated!”
“I have another question. As a sole proprietor, I can only claim 50% of my meal expenses and GST/HST, correct?” Merry asked.
“Actually, Merry, that is a common error. There are two situations where you may claim 100% of the meals and GST/HST. One is using a line item on the invoice to your client for the meal costs which passes the cost to them; if you use an all-inclusive rate, show the meal amounts separately on your invoice.
“For example, if your fee including meals was $5,000, you would show the fee as $4,850.00 and the meals as another line item of $150.00.
“In the second situation, you may claim 100% for up to six events annually (such as Christmas parties, BBQs, and picnics) that are for all employees. Attendees may also include suppliers and clients. “
“Thanks Lorn, you certainly have given me things to think about. I sure can see the benefit of incorporation in my new business!” Merry left smiling, thinking of tax deferrals, tax-free mileage and meal claims.
Here are a few other tips for Merry and other speakers:
For either proprietorships or corporations:
- All direct business expenses (insurance surcharges for using vehicle for business, parking, tolls, ferries) for business are deducted by/reimbursed by the business. If you have an accident on business, any deductible or repair costs are business expenses.
- Only business related meals, coffees and travel expenses are deductible.
- Tips and alcohol are business expenses.
- $50/night for non-commercial accommodation when staying with family, friends, etc.
For corporations only:
- NJC rates can be found at:(http://www.njc-cnm.gc.ca/directive/travel-voyage/td-dv-a3-eng.php)
- Your policy would include: an incidental allowance of $17.30 per diem for when you are away overnight; and $50/night for non-commercial accommodation when staying with family, friends, etc.
Lorn Stanners, CMA, Past President CAPS Edmonton is your Entrepreneurs & Estate Tax Guide. He has been keeping the jingle in clients’ jeans for 30+ years. For more Tax Tips, join Lorn on Linkedin at the page ‘Joy of Tax, Keeping the Jingle in Your Jeans!’