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Understanding taxes for small business owners in Canada: Your top 10 questions answered

Table of Contents
- What does being a small business owner entail?
- What taxes for small business owners are applicable in Canada?
- Does my business structure impact my tax filing?
- What is included in the self-employed income tax return?
- What can be considered a business expense?
- Do I still need to file a tax return if my business didn't make a profit?
- Importance of keeping business accounting records
- Which documents should I keep for my business records?
- How can I manage my business finances?
- Penalties for failing to pay taxes on small business income
Key takeaways
Understand taxes for small business owners: Whether you are a sole proprietor, freelancer, or incorporated business, familiarize yourself with the taxes you are required to pay, including income tax and potentially GST/HST.
Leverage tools and professionals: Use accounting software or hire professionals like accountants and bookkeepers to help manage your finances and ensure timely and accurate tax filings.
Stay organized and compliant: Keep detailed financial records, file your tax returns on time, and stay on top of your business’s financial performance to avoid costly penalties and ensure your business remains in good standing with the CRA.
As a newcomer to Canada, pursuing entrepreneurship or becoming a small business owner offers numerous advantages. Whether you decide to purchase an existing Canadian business or launch your own, this path provides the potential for growth, the chance to generate a steady income, and the freedom of being your own boss.
However, similar to earning employment income, profits from your business are subject to taxation. If you’re unfamiliar with Canadian tax regulations as they apply to small businesses and self-employed individuals, this article aims to provide a comprehensive overview. It will cover the basics of taxes for small business owners in Canada and address common questions newcomers have regarding entrepreneurship and income tax.
What does being a small business owner entail?
In Canada, a small business is defined as any activity carried out for profit, including professions, trades, or manufacturing ventures. Notably, you don’t need a physical storefront or employees to run a small business.
You can operate your business either full-time or part-time while holding a regular job. As a newcomer, even if you engage in freelancing or side gigs such as ride-share driving, dog walking, food delivery, consulting, or content writing, you’re considered a small business owner.

What taxes for small business owners are applicable in Canada?
As a small business owner, you are required to pay income tax on the profits generated by your business. In Canada, income tax is levied at both the federal and provincial or territorial levels.
Additionally, depending on your business type, you may need to collect Goods and Services Tax (GST) or Harmonized Sales Tax (HST) from your customers and remit it to the Canada Revenue Agency (CRA). However, if your business revenue falls below $30,000 CAD over four consecutive quarters, you are not required to register for GST/HST. That said, you have the option to voluntarily register for GST/HST even if you don’t meet the minimum revenue threshold.
It’s also important to note that as your business grows, you will likely be required to make quarterly tax payments starting after your first year of operation.
Does my business structure impact my tax filing?
The structure of your business plays a significant role in determining the taxes you are required to pay. Most small businesses begin as sole proprietorships or partnerships. These business types are not incorporated, which means you must report your business income on the T2125 form, alongside your personal T1 income tax return. If you operate as an independent contractor or freelancer, your income will be taxed based on the personal income tax brackets.
If you have incorporated your business, you’ll need to file a T2 Corporation Tax return. Incorporating can offer substantial tax benefits, so it’s important to understand the advantages and disadvantages of each business structure before making a choice.
For corporations, the basic federal tax rate is 38% of taxable income, which is reduced to 28% after federal tax abatement. However, Canadian-controlled private corporations (CCPCs) that qualify for the small business deduction (SBD) on income earned from business activities in Canada can benefit from a significantly lower federal tax rate of 9%.
Provincial and territorial income tax rates for corporations vary, with lower rates applying to income eligible for the small business deduction.
What is included in the self-employed income tax return?
If your business is not incorporated, and you’re filing taxes as a self-employed individual, you’ll need to complete the T2125 form as part of your personal income tax return. This form reports your self-employment and professional income.
The T2125 form is divided into various sections, each focusing on a different aspect of your business. Some of the key sections are as follows:
- Business Identification: This section requires your name, business name, address, industry code, and, if applicable, the partnership number and your share of the partnership. You’ll also need to specify the fiscal period for your tax filing. For most sole proprietorships and partnerships, the fiscal period aligns with the calendar year, but you can choose a different fiscal period if needed.
- Partner Details: If your business operates as a partnership, you must provide information about your business partners, including their share of the partnership and their portion of the business’s profits or losses.
- Business Income: This section covers your gross income, including sales, commissions, or fees. You will need to account for any GST/HST or provincial sales tax collected, as well as returns or discounts. You’ll also deduct the cost of goods sold, such as inventory, purchases, wages, and subcontracting costs, to determine your gross profit or loss.
- Net Profit and Business Expenses: In this section, you’ll subtract your business expenses from your gross profit or loss to calculate your net profit (or loss), which is then used for taxation purposes.

What can be considered a business expense?
To claim tax deductions, only expenses directly related to your business activities can be considered business expenses. Eligible expenses include advertising costs, meals and entertainment expenses, insurance premiums, office supplies, professional fees, rent and maintenance fees, property taxes, salaries and benefits, utilities, travel costs, vehicle expenses, capital cost allowances, and expenses related to the business-use-of-home.
However, it’s important to note that salaries and benefits paid to business owners or partners in unincorporated businesses are not deductible business expenses. If your business is incorporated, you’ll need to consider the tax implications of paying yourself a salary versus reinvesting earnings into the business. This decision impacts the tax obligations, as the corporation must pay taxes on its profits, and you’ll also pay personal income tax on your salary.
Do I still need to file a tax return if my business didn’t make a profit?
Yes, you are required to file a tax return even if your small business hasn’t turned a profit. It may take time for your business to become profitable, but filing a return is still necessary. If your business has incurred a net loss during a given fiscal period, you may be able to apply that loss against your other income, which could reduce your overall tax liability.
Importance of keeping business accounting records
It is essential to maintain all financial documentation related to your business, even if you’re not required to submit them with your tax return. Keeping accurate records is not only a legal compliance requirement but also important in case the Canada Revenue Agency (CRA) audits your tax return and requests proof of your income, deductions, or credits.
Proper record-keeping allows you to monitor your business performance and accurately estimate your tax liabilities. It is also crucial for tracking expenses and receipts so that you can claim eligible tax deductions. Set aside dedicated time each week to organize your receipts and label your expenses. Additionally, it’s advisable to review your business’s financial standing regularly or hire a financial professional to help manage your accounts.
Which documents should I keep for my business records?
Although the CRA doesn’t specify every document you must keep, there are certain key accounting documents that you should maintain for your records. These include sales invoices, purchase invoices, receipts from cash registers, formal contracts, credit card receipts, delivery slips, deposit slips, cheques, bank statements, tax returns, and general financial correspondence.
Additionally, any working papers prepared by accountants to determine tax obligations and entitlements are considered part of your business’s official records and must be made available to the CRA upon request.
How can I manage my business finances?
While you may be highly knowledgeable about your business, Canadian tax laws may not be your area of expertise. Fortunately, there are a variety of resources and tools available to help you manage your finances effectively.
There are numerous software solutions that can simplify the process of managing your small business finances, including tracking your income and expenses. For instance, QuickBooks Self-employed is a popular tool for managing finances. Additionally, you can file self-employed income tax using platforms like H&R Block, TurboTax, FreshBooks, UFile, or TaxTron, which are all designed to guide you through the tax filing process.
Depending on your business’s size and complexity, you may also consider hiring professionals such as an accountant, bookkeeper, or a professional organization. These experts can help you manage your finances on a regular or occasional basis, such as during tax season.
Regardless of whether you handle your business’s finances yourself or work with professionals, it’s essential to regularly review your financial reports. Doing so allows you to assess your business’s performance, adjust your strategies as needed, and ensure that you are on track to meet your financial goals.

Penalties for failing to pay taxes on small business income
In Canada, failing to meet your tax obligations or engaging in tax evasion can result in serious penalties. If the Canada Revenue Agency (CRA) determines that you have intentionally falsified information or omitted details from your tax return, you could face a penalty of $100 or 50% of the understated tax or overstated tax credits, whichever is higher. In more severe cases, tax evasion can lead to criminal charges, substantial fines, or even imprisonment.
If you file your tax return late and owe taxes, you will incur a late-filing penalty. The penalty is 5% of the balance you owe, plus an additional 1% for each full month you are late, up to a maximum of 12 months. If you’ve previously been penalized for late filing in the last three years, the penalties for subsequent late filings will be significantly higher.
As a small business owner in Canada, part of your business revenue will go toward paying income tax. Whether you’re in the process of creating your business plan or have already established your business, it’s crucial to understand the taxes that apply to you, how to file your tax returns, and what tax deductions you may be eligible for. This overview provides essential information to help you navigate self-employment taxes effectively.
Conclusion
Managing taxes is an essential aspect of running a small business in Canada. While it may seem complex at first, there are numerous tools, resources, and professionals available to help you navigate the process. By understanding the tax obligations that apply to you, staying organized with your financial records, and seeking help when needed, you can ensure that your business remains compliant with Canadian tax laws and is set up for long-term success.
Remember, regular review of your financial reports, awareness of tax deadlines, and the ability to claim eligible deductions are key to minimizing your tax burden and avoiding penalties. Stay informed, stay proactive, and your business can thrive without the added stress of tax issues.