If you are not Bookkeeper or an Accountant, knowing what you can deduct on your Income Tax Return as a justifiable business expense can be difficult. It becomes even more clouded when your business expenses are mixed in with your personal expenses, or if they all come out of the same account.
If you are claiming self-employment income, you’ll have to fill out a Form T2125 Statement of Business or Professional Activities when filing your tax return. If you’ve never seen this form, you can view and print it HERE. Even for those of us that have seen it, it can be a little confusing. Here is a section by section break-down in layman’s terms:
Disclaimer: Though I do work closely with one, I am in no way a Taxation Specialist or Accountant and the information in this post is to be used as guideline only. I strongly recommend you have your tax return and all deductions reviewed by a Taxation Specialist or Accountant.
Along with your personal and business information, in order to fill out this Form, you’ll need to know what your Industry Code is. This is based on your main product or service. If you are unsure of your Industry Code, HERE is CRA’s listing.
Part 1 or 2 – deciding whether to claim Business Income or Professional Income.
Business income is defined on CRA’s website as “non-professional income”. So what is professional income? Generally, it is income for professions that require licensing such as doctors, dentists, lawyers, accountants, etc. and usually includes fees for work in progress (WIP). If you are unsure of which you would fall under, the safest bet would be to choose Business Income.
You enter your TOTAL gross sales for your fiscal year, including all HST/GST/PST you charged, on line A. This amount also includes all fees that you charged but have not yet been paid for. (i.e. you invoiced something on Dec 30, but won’t be paid until Jan 10.) The HST/GST/PST you charged is then deducted using line (i) resulting in your Adjusted Gross Sales entered on line C.
Part 3 – Gross Business or Professional Income
Pretty simple. Your adjusted gross sales from line C of Part 1 or 2, plus any other income or draws from your reserve (if you have one) you are claiming and enter the amount on line 8299. This is your Gross Business (or Professional) Income. You will need this amount again on this Form and it will be transferred to your income tax and benefit return.
Part 4 – Cost of Goods Sold and Gross Profit
Also pretty straight forward. Enter in your gross sales, deduct your purchases (note that “purchases” generally refer to the cost of goods required to make your product and NOT general expense purchases), wage costs, subcontract fees and you’ve got your Gross Profit.
Part 5 – Net Income (Loss) Before Adjustments
THIS is where it gets a little tricky. Some of the items are always going to be straight business expenses; things like advertising and business tax. But the rest? Not so simple. That venti Caramel Macchiato you picked up on your way to the meeting? NOT deductible. But if you met a client at the coffee shop, and bought 2 – one for you, one for him? Totally deductible – to a point.
Here’s a rundown of each expense category and what can generally be included (or not included) in each:
Advertising (8521) – there’s the obvious expenses incurred for advertising your business, but expenses such as domain name registration and web hosting can also be added here. Your website design? This can be tricky. If you paid someone $2000 to design a new site, this is probably going to fall under Capital Cost Allowances, but if you paid someone $400 to make a few changes, it can be included here. Your Accountant or Tax Specialist will be able to tell you when to claim it and where.
Meals and Entertainment (8523) – you’ll notice this says “allowable part only”. The CRA has some rules to follow when you’re writing off your meals. Essentially, the rule is that it’s almost never a complete write off. The CRA Guide states “The maximum amount you can claim for food, beverages, and entertainment expenses is 50% of either the amount you incur or an amount that is reasonable in the circumstances, whichever is less.” So essentially, the coffee you bought for your client earlier is deductible. The coffee you’re drinking? Nope. You’re still paying for it. Also, if you plan on deducting anything under this category, the CRA recommends you write the name of the person you dined or entertained with on the back of your receipt, along with their business name and contact phone number. As with most everything regarding taxes, there are exceptions to rule. The CRA Guide can break down when these expenses can be deducted entirely.
Bad Debts (8590) – This is where you put the amount of fees that you don’t ever expect to see payment for. The catch? You have to first include the amount in your Gross Sales on line A of Part 1 or 2 but not necessarily in the current year. It can be income you claimed in previous years but did not get paid for.
Insurance (8690) – This is where you enter the amount of business insurance fees you pay for the year. It DOES NOT include vehicle insurance! This is addressed under Motor Vehicle Expenses.
Interest (8710) – This is where you claim the amount of interest you pay for your business loans, including the amount of interest paid on your company credit card. If you use your personal credit card for business expenses, you can also claim the interest here on the provision that you have NO PERSONAL EXPENSES on your account. The minute you charge a personal item, your interest charges become a personal expense and not deductible.
Business tax, fees, licences, etc. (8760) – This is where you enter all the taxes and fees you incur over the year. It includes the dues you pay to keep your membership in a trade or commercial association. It is also where you would put your annual software licensing fees, but NOT the cost of the software itself. Business tax does NOT include income tax of HST/GST/PST.
Office Expenses (8810) – This is where you would deduct the cost of your general office supplies. It includes items such as paper, staples, ink and toner, pens, etc. It does NOT include calculators, desks or furniture, computers and computer equipment, or most software purchases. These are (usually) Capital Items.
Supplies (8811) – This is where you deduct the cost of items used indirectly to provide goods or services. An example would be cleaning supplies.
Legal, Accounting, and other professional fees (8860) – Legal and accounting fees are pretty straight forward, but this is also where you would deduct the fees paid to consultants such as me. (Yes, my fees are a write off for your business. Isn’t that handy to know?)
Management and Administration fees (8871) – This is where you would deduct your business bank account fees, among other things.
I have heard rumours among bloggers and web designers that this is where they claim purchases of their design templates. This is incorrect. They are a Capital Expense, however, they are still 100% deductible. Your Accountant or Tax Specialist will be able to help you further with this.
Rent (8910) – This is the rent you pay for your office or business space outside of your home. It does NOT include your business use of home rent. That is addressed later on this Form.
Maintenance and repairs (8960) – This is where you would put the costs incurred to maintain all properties used in the earning of your business income. However, if you do the work yourself, you CANNOT deduct your labour costs – only the supplies used.
Salaries, wages and other benefits (9060) – This would be where you deduct ALL the costs associated with paying your employees that were not previously deducted under Direct Wage Costs on line 8320 of Part 4. Yes, you can include salary paid to your children and/or spouse.
Property taxes (9180) – This only includes the taxes paid on property used for business purposes; it does NOT include the business use of home portion of your personal property taxes.
Travel (9200) – If you have to travel for business, this is where you can deduct the costs associated with it such as hotel and transportation fares. Your meals while travelling still fall under the guidelines associated with Meals and Entertainment above. This also does NOT include costs associated with attending conventions. This is addressed later under Other Expenses (9270).
Telephone and utilities (9220) – This is where you input the costs for your business phone and utilities. It does NOT include business use of home items.
Fuel costs (9224) – This is where you deduct the use of fuels for business use but does NOT include vehicle fuel.
Delivery, freight, and express (9275) – This is where you deduct the cost of delivery for your products and courier costs.
Motor Vehicle Expenses (9281) – THIS is where you would deduct all of the expenses incurred while operating a motor vehicle for business use. This is calculated using Chart A on page 5 of Form T2125. In order to claim this amount, you are required to keep records of the total kilometres driven AND the total kilometres driven to earn business income. You can deduct ONLY the amounts for the percentage of usage designated as business use. The formula for calculating this amount look a little like this:
Business use KMs/Total KMs x Total Vehicle Expense = Deductible Motor Vehicle Expenses.
Allowance on eligible capital property (9935), and Capital Cost Allowance (9936) – These are calculated using Areas A to F on page 4 of Form T2125. If you have Capital Property or Capital Costs, I recommend reading fully Chapters 4 and 5 of CRA’s Guide, or better yet, use the services of a qualified accountant or tax specialist.
Other Expenses (9270) – This is where you can deduct expenses incurred to earn income that are not already outlined in the above sections. This section can include:
-disability-related modifications to your business property
-property leasing costs
-costs associated with going to up to 2 Conventions a year
-deductions for reserve funds
-private health services plan premiums
As with everything government-related, there are conditions and criteria associated with claiming Other Expenses. Refer to page 25 through 28 of theGuide for more information.
Part 6 – Your Net Income (Loss)
This is where you will input values from previous areas of Form T2125 as well as your Business Use of Home Expenses, resulting in your Net Income which will be transferred to your income tax return.
Calculating your Business Use of Home Expenses
Business Use of Home Expenses are deductible as long as your home is:
-your primary place of business, or
-you use the space only to earn your business income, and you use it on a regular and ongoing basis to meet your clients, customers, or patients. (Yes, this does include “virtual” meetings via phone or video conferencing.)
In order to calculate how much of your household expenses you can deduct, you must first calculate how much of your home you use for business purposes. If you have a designated work space, that portion of your home is deductible. i.e. your home is 1000sqft, you have a 250sqft room designated as office space (that is not used for personal use at all), you can deduct 25% of your household expenses for business use.
It becomes a little more complicated when you don’t have a space designated as strictly business use. As an example, let’s say you set up shop at your kitchen table every morning and close up to serve dinner on the same table. You will have to calculate how much time you spend working in that space, divide it by the amount of hours in a day (24), multiply that amount by the amount of space you use divided by the total space of your home, then multiply the result by your total cost of expenses to find the amount you can deduct.
Here is the example directly from the Guide:
Monique runs a business in her home weekdays from 7:00 a.m. to 5:00 p.m. (10 hours out of a 24-hour day). The business uses an area of 35 square metres. The house is 100 square metres, and the annual household expenses are $5,800.
The calculation is as follows:
10/24 hours × 35/100 metres × $5,800 expenses = $845.83
The business operates 5 days a week, so Monique has to do another calculation:
$845.83 × 5/7 days = $604.16
Monique can deduct a total of $604.16 for household expenses.
Again, I am not a taxation specialist or an accountant. While the information in this post has been reviewed by a taxation specialist, and I hope the information provided here is helpful, it is to be used as a guideline only.
This is the first in a series of posts on the subject of Income Tax Preparation Tips for Small Businesses and the Self-Employed. Be sure to check back soon for upcoming posts regarding Organization and Comparison of Accounting Methods.
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