Customized Bookkeeping Solutions for the Self-Employed / Sole Proprietor

Being self-employed means that you work for yourself and not for another company. You are a sole-proprietor providing some type of service or product to other individuals or businesses with the expectation of profit. But wait... there is a caveat. Your legal "business name" is your legal personal name for all intents and purposes, even if you are "doing business as (DBA)" or "operating as (O/A)" a trade name. To meet this definition, your business is not registered as a corporation or limited liability partnership.

You can be a sole proprietor that registers your business as a private corporation, and you would no longer be considered self-employed because now you work for a company. You're still the boss, and the only boss, and you run the whole show, but a Corporation is a legal entity in its own right. Even if you used your personal name as your business name, it would now have to be followed by an indicator that it is its own legal entity separate from you, such as Co., Corp., Corporation, Limited, Ltd., LLP,.  Inc., or Incorporated. You are now an individual (legal entity) who owns your corporation (2nd legal entity).

There are pros and cons to incorporating when you are a sole proprietor, each having its own rules, accounting principles, and tax treatments. We, at By All Accounts Bookkeeping, work for the self-employed / sole proprietors in addition to corporations. I've heard that there are some bookkeepers and accountants that only take clients that are registered companies. We believe that the self-employed deserve as much guidance and assistance with their bookkeeping, because you are still required to track your income and expenses in accordance certain tax rules. Below are some of the key differences between being self-employed and owning a corporation, along with some considerations for deciding if, or when, it might be appropriate to incorporate.

Our customers that use By All Accounts Bookkeeping for ongoing monthly services (no matter how little or how much) can call us anytime to ask questions about anything related to managing your books. We can also provide one-on-one training, billed hourly, so you feel comfortable doing your bookkeeping yourself.

As a self-employed / sole proprietor your business activities could fall into just about any industry or field that you can think of. Not only are there differences between sole proprietors and corporations, but your industry could also have some unique considerations that will have an impact on your bookkeeping practices. There are five industries that we specialize in based on our experience, so pop on over to find your industry.

1. Business Income - Gross & Net Income
2. Business Expenses
3. Canada Pension Plan - CPP
4. Employment Insurance (EI)
5. Bookkeeping / Record Keeping
6. Income Taxes
7. Sales Tax Compliance

Of course, as a business person, you want to claim as many eligible expenses as possible to reduce your taxable income so you will need to be diligent about recording all of your business-related expenses. We think the safest definition of eligible expenses is any expense incurred that directly facilitates the provision of your products and services. You will have to be careful about claiming expenses that are all, or partially, personal expenses. In the case of expenses that you benefit from personally, that are also required in order for you to conduct business, you will need to calculate the proportion of the total amount that is for your business use. 

Another way to think about eligible expenses is to consider what an employer would reimburse an employee for. If an employee stops at the grocery store to pick up toilet paper for the office and pays out of their pocket, they would submit the receipt to their employer for reimbursement because toilet paper for a staff washroom is a legitimate business expenses. On the other hand, if you stop at the grocery store on your way home for a job site to pick up toilet paper for your house, this is not an eligible business expense because it is not required in order for you to carry on your business activities.

Be careful with this. Some self-employed people try to sneak some personal expenses into their business expenses which is a definite no-no! Should you be audited by the CRA, they will expect receipts or invoices for every expense you write off, and they will review the details of the purchases on each receipt and question you as to the business justification for the expense. There are also some rules related to vehicle use, fuel costs, and mileage that you should understand before you claim expenses.

You are required to keep backup documentation (receipts, invoices, statements, etc.) for EVERY EXPENSE that you claim on your tax return for a period of 6 years from the date you filed the return. Don't forget to get a receipt! Don't lose your receipt! Don't throw out your receipt! (If you happen to buy personal items and business items on the same receipt, you are required to mark the business items, and keep the receipt with your business records.)

Whether you're incorporated or not, a sole proprietor can claim certain things like utilities, property taxes, mortgage interest, leases, etc. in their full amounts if related to your business location or office that is separate from your home. It is the same with vehicles. If you own or lease vehicles that are used solely for your business, then your vehicle expenses (insurance, fuel, maintenance, lease payments (up to a limit), loan interest, etc.) can be claimed at 100%. (*Note: the purchase price of a vehicle is not an expense, but you will be able to write off your Capital Cost Allowance over time.)

While there may be some terminology and accounting differences between a corporation or a sole proprietor, the types of expenses that are eligible are pretty much the same. It is more difficult as a self-employed person to separate and calculate the business portion of your mixed expenses. A corporation is a separate entity and will always be treated as such - it won't pay your bills and you won't pay its bills out of your personal salary. If you have to pay for something because your company's cash flow is suffering or you're just starting out, then you would record the amount as a loan to the corporation (Shareholder's Loan) or and increase in your owner equity.

*Capital Assets are tangible assets that are purchased, constructed, developed or otherwise acquired and:

1. Are held for use in the production or supply of goods, the delivery of services or to produce program outputs;
2. Have a useful life extending beyond one fiscal year and are intended to be used on a continuing basis; and
3. Are not intended for resale in the ordinary course of operations.

-- *Capital Asset as defined by the CRA

Any equipment, buildings, furnishings, technology (computers, software), tools > $500,  or other assets that you use in the course of conducting business will fall somewhere into the CRA's table of Capital Cost Allowance Classes, which prescribes the percentage of original cost that a business can claim as depreciation expense each year. While they almost always cost a fair bit of money (maybe even requiring a loan) Capital Assets are not an eligible expense as discussed above. This is because they serve to generate income for your business over an extended period of time. The concept of depreciation is to spread the original cost over the expected life of the asset, as prescribed by the CRA. They've done the research for you!

If you'd like a better understanding of assets, asset types, and eligible depreciation expense, check out the CRA's table of Capital Cost Allowance Classes.

The tax treatment of Capital Assets is the same for sole proprietors and corporations. The detail of record keeping and reporting requirements for a public corporation are significantly more stringent.

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Any person that earns any income from any source is required by law to file a tax return, but even if you did not make any money during a tax year, it is still to your benefit to file a T1 Income Tax and Benefits Return so that you can claim any additional benefits that you are eligible for, such as GST Rebates, Child Tax Benefits, BC's Fair PharmaCare Plan, Old Age Security, etc. And as a sole proprietor, even if you did not make any net self-employment income (after expenses) you will still need to file your T1 showing your gross income and your eligible expenses as proof that you do not have any taxable income. The reason that you file all of your self-employment income in a T1 Individual return is because you are your business, and your business is you. All of your income is tied to your social insurance number (SIN) and not a corporation (separate entity).

Corporations are required to complete a T2 Corporation Income Tax Return each year, whether they have any income to report or not. T2s are significantly more complex than a T1 return, and if you do incorporate, you can expect to pay an advanced bookkeeper or an accountant a fair bit of money to correctly prepare and file your T2 Corporation Return.

This is not to say that your T1 return is not made more complicated due to your self-employment filing status, as you will be required to complete a T2125 Statement of Business or Professional Activities and file it with your T1 Income Tax and Benefits Return. We will tailor our tax services to meet your needs and wishes, whether you need us to prepare all of your required T-forms and Schedules and e-file your return directly to the CRA, or you only need our assistance with one particular form.

The T2125 Statement of Business or Professional Activities is only for self-employed persons and is essentially like a mini corporate return. This is where you will detail your income, expenses, COGS and/or COS, Capital Cost Allowance, net GST payable, capital asset purchases, etc., all for the purpose of calculating gross business or professional income and net business or professional income (or loss) on your T1 Income Tax and Benefits Return

The process of preparing and filing your personal income tax return (T1) is the same for self-employed persons as  it is for employed persons, with a couple of extra numbers taken from your completed T2125.

The good news is that you get an extra 46 days before you are required to file your return. June 15th of each year is the filing deadline for sole proprietors to file their T1 Income Tax and Benefit Return.

The bad news is that even though you have longer to gather all of your information and file your return, you are still required to pay your taxes owed by April 30th. 

How can this be? you ask. How do I know how much taxes I owe more than seven weeks before I complete my return? Well, the short answer is you don't know exactly but it is still your responsibility to estimate your taxes payable from some basic information from your books. This is another reason why it's important to stay on top of your bookkeeping throughout the year instead of waiting until the last week before your filing deadline. If you plan to take advantage of the June 15th filing deadline, you will have to estimate your taxes payable and remit payment by April 30th. Once you have prepared and filed your return by June 15th, you will wait for the CRA to process your return and provide you with your Notice of Assessment (NOA) telling you whether you still owe additional taxes or whether you will receive a refund of overpaid taxes.

What do we recommend? Well, if you've been diligent in your record keeping or you had a bookkeeper managing your books, then the information is readily available and we suggest you file and remit taxes payable by April 30th each year. Estimates usually don't include legitimate adjustments that could further reduce your net self-employment income and save you from sending extra money to the government for them to hold onto for a few months.

Your T2125 and your T1 will inform you of any additional tax credits that you might be eligible for, such as business-use-of-home expenses and business-use-of-personal vehicle expenses. Your net income on your T1 will determine whether you're eligible for GST rebates, Working Income Tax Benefit, your threshold for Fair PharmaCare, etc. 

Just ensure you are tracking your information correctly that is required for determining your claim amounts. For example, if you use your personal vehicle for all of your business activities, you need to use a percentage calculation - percentage used for work vs. percentage used for personal - to determine the amount you can claim as a business expense (mileage, fuel, repairs and maintenance, insurance, license and registration fees, capital cost allowance, interest paid on car loans, or leasing costs). You can check your odometer at the start of the year, keep a logbook (or use QuickBooks Online Mileage Tracker or another mileage app) of your business-related mileage, and then check your odometer at the end of the year to calculate the business percentage use.

Take advantage of these additional credits through being committed to accurate record keeping.

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