The adjective taxing and the noun taxation have one thing in common: They are both complex and require a lot of mental effort. The tax laws themselves are complicated and keep changing. Keeping up with these tax-law changes is a taxing job and could significantly affect your tax plan. Hence, tax planning strategies should be reviewed annually to account for the changes.
When we speak of tax strategies, we don’t just mean year-end tax planning or claiming the tax benefits offered by the Canada Revenue Agency (CRA). Tax planning strategies are tailored to the client’s unique needs and financial circumstances and aim to minimize tax, maximize after-tax profits, manage debt, and make strategic investments in business assets.
What Are Tax Planning Strategies?
Canada’s corporate tax system has:
- Federal tax
- Provincial tax
- Tax credits and deductions
Companies earning money in Canada are required to do a self-assessment of their income, calculate taxable income, apply applicable tax rates, and claim applicable tax deductions/credits. This is the scope for tax planning strategies, where tax consultants plan the timing of income and expenses and apply the most relevant tax deductions and credits while being compliant.
Where Small Businesses Need Tax Planning Strategies?
There is no point in making a tax strategy after completing a transaction. Several business decisions and transactions need tax planning strategies to save your business from a huge tax bill while being compliant with the laws.
To Avail of CRA Tax Credits and Capital Cost Allowance
Running a business requires significant business and capital expenses. The CRA allows firms to claim these expenses by deducting them from their taxable income. Some tax credits include Foreign Tax Credits, Research and Development (R&D) Incentives, business expense deductions (office rent, salaries, supplies), and investment tax credits for specific industries like manufacturing or clean energy.
The CRA also has a capital cost allowance that allows businesses to depreciate a fixed asset at a certain percentage and claim depreciation as a tax-deductible expense.
Claiming these expenses requires proper planning and strategy. For instance, should you buy or rent equipment, and what are the tax implications? Many businesses exhaust their cash flows early by not planning their capital and business expenses and not claiming the tax benefits for which they are eligible.
This is the most basic tax strategy. Things will now get complicated.
Use Corporate Losses to Reduce Tax
Business has its ups and downs. Most companies make losses initially. You can use these losses to offset profits and reduce your tax bill. The CRA allows businesses to carry forward losses by up to 20 years and carry back them by three years.
Types of losses: A business can have a capital loss from the sale of assets or a non-capital loss from business operations. You can offset capital gain from capital loss and business gain from business loss.
You can time your capital and business transactions so that you can use those losses before they expire. For instance, you can sell an asset for a loss in the same year you made a huge capital gain. This will help you reduce your tax bill. Similarly, you can save your non-capital tax loss for a cyclically strong year when a new product or marketing campaign is set to bring windfall gains. When to use what is all part of tax strategy.
Another slightly complex strategy is consolidating losses within corporate groups. If one company in the group has losses and another has profits, they can probably use intercompany loans or asset transfers to offset profit and save tax. However, such a transaction should be acceptable under the tax laws.
Use Strategies to Defer Taxes
A business owner can withdraw money from the corporation through salary and dividends, both of which are taxable at the personal level. The owner can employ his/her family members and pay them salaries per the industry standards and hours worked. However, the family members should be qualified to do the job and work reasonable hours. The owner can also make family members shareholders and distribute dividends, thereby using their low tax bracket to his/her advantage. However, these strategies should comply with the Tax on Split Income rules.
A corporation can create a family trust or a holding company and transfer the dividends to them tax-free. The business owner can make family members the beneficiaries of the trust or shareholders of the holding company and accordingly distribute the income. However, these are complex structures with reporting requirements and administrative costs. It is better to consult a tax expert for such complex strategies.
Incorporate Business for Tax Purposes
A company needs to be incorporated to avail itself of corporate tax benefits. For instance, the CRA offers small business deductions of $500,000 to Canadian-controlled private corporations (CCPC). In this way, qualified CPCCs pay a reduced corporate tax rate of 9% up to $500,000 in income, bringing significant tax savings.
The CRA also allows corporations to use long-term capital gain exemption (LCGE) that exempts capital gains of over $1 million ($1,016,836 in 2024) if they sell their business. However, sales transactions need vital planning as the company should meet specific criteria, such as the business being owned by you or someone related to you and 50% of the business’s assets being used in an active business in Canada. Both these criteria should be met 24 months before the sale, hinting that tax planning should begin two years in advance.
While incorporating has benefits, a corporation has several accounting and legal obligations that increase the cost. You have to analyze the costs and benefits before deciding on incorporation.
Tax Planning for Mergers and Acquisitions
A merger and acquisition (M&A) transaction requires tax planning at multiple levels, from preparing a transaction structure to financing the transaction.
- Once you freeze on the target company, you sign an agreement and determine the transaction structure—whether to buy assets or shares, as both have different tax consequences.
- The next step is to do due diligence on the target company to identify potential tax risks or liabilities. This involves studying financial records and tax filings to ensure the company is tax-compliant and has no undisclosed liabilities.
- If you acquire a company with accumulated losses, you can use them to offset future taxable income. However, you should ensure that specific restrictions and anti-avoidance rules are followed.
- The next step is to fund the M&A through debt – to claim deductions on interest payments – or equity – to claim deductions on dividends.
Tax Compliance
Any tax strategies you use should comply with the ever-changing Income Tax Act that dictates specific business regulations and guidelines. Any business that fails to comply with them could attract CRA audits, penalties, and interest.
Contact Edelkoort Smethurst CPAs LLP in Burlington to Help You with Tax Strategies for Your Business
Talk to a professional tax consultant to help you customize your tax strategies for your business. At Edelkoort Smethurst CPAs LLP, our tax consultants can provide services such as tax filing, tax planning and strategy. To learn more about how Edelkoort Smethurst CPAs LLP can provide you with the best tax planning expertise, contact us online or by telephone at 905-517-2297.