Preparing small business tax returns and figuring out what expenses you can deduct can be complicated. In Canada, businesses pay both federal and provincial corporate income tax. But there’s a lower tax rate for small businesses that meet small business deduction (SBD) criteria. Businesses that are not Canadian-controlled or that earn over a certain taxable income pay a higher rate.
What qualifies as a small business in Canada?
In general, a small business is any business with fewer than 100 employees. But for tax purposes, there’s a different definition. To be eligible for the small business deduction, it must be a Canadian-controlled private corporation (CCPC). CCPCs are not traded on the stock exchange. They are also controlled by Canadian residents, not by non-residents or public corporations.
Businesses that qualify for the small business deduction (SBD) pay a reduced federal small business tax rate of 9%. This is compared to the regular general rate on business profits, which is 15%.
Businesses must meet three criteria to qualify for the SBD. The three criteria to qualify as a small business for tax purposes are:
The business earns less than $50,000 in passive investment income.
The business earns less than $500,000 in active business income during the taxation year.
The business's taxable capital is less than $10 million.
Active income is income from your primary business activities, such as selling goods or providing services. It also cannot be from a personal service business. This prevents people from incorporating to gain tax advantages when they should be an employee.
A personal service business (PSB) is an incorporated business. The individual provides services to a business in a way that should be considered a regular salaried employee. Most income is likely to come from a single client. To avoid the PSB label, businesses must have independent contracts with multiple clients. They must also control their schedule. The business must be owned or controlled by Canadian residents to qualify as well.
If a small business earns more than $30,000 a quarter or more than $30,000 in a year it must collect Harmonized Sales Tax/Goods and Services Tax (HST/GST).
Why are businesses taxed?
The government has different standards for small and bigger businesses when it comes to taxes. Small businesses have lower tax rates. These lower small business or corporate tax rates:
allow the government to support small businesses to make a profit before paying higher taxes
help small businesses during startup to manage their costs
are used by provinces to attract business owners and corporations to provide jobs and boost the economy
Once business income increases, businesses must pay more taxes. Such taxes might include higher payroll, corporate, and carbon taxes. For example, carbon taxes are paid by businesses that consume items taxed under carbon pricing, such as gasoline.
What are the corporate income tax rates in Canada?
Small businesses are taxed based on their revenue. The corporate income tax rate varies in Canada based on where the business is located. It also depends on the size of the business, the types of services offered and how the business generates income.
For corporations, there are two levels of federal corporate tax rates. The CCPC small business rate is set at 9%. This is lower than the general corporate federal tax rate, which starts at 38%. However, after the 10% federal tax abatement and 13% general tax reduction, the general corporate tax rate is 15%.
It’s important to remember that corporate tax rates are subject to change yearly. It’s important to check with your local tax authority to stay on top of any rate changes.
Here are some other taxes small businesses may pay, in the following categories. Different corporate tax rates may apply here:
capital gains
passive investment income
dividends
Federal corporate tax
The federal corporate tax rate, which winds up being 15% after abatement and reduction, is for larger businesses. These are often publicly owned or owned by one or more public corporations:
They can also be Canadian-resident private companies controlled by non-residents.
Small businesses that don’t meet the SBD criteria also pay this rate of 15%.
Provincial small business tax rates
Businesses must also pay provincial or territorial corporate tax on their revenue. The provincial/territorial tax rate varies from region to region. Like the federal government, provinces and territories have different tax rates for different types of corporations. Most provinces use the federal small business deduction threshold of $500,000 for active income earned. This is also called the small business limit, and it represents the first $500,000 of the business's taxable capital. Saskatchewan, with a limit of $600,000, is the exception.
The tax rate can depend on the type of business, such as manufacturing versus retail.
Alberta and Québec don’t have a corporation tax collection agreement with the Canada Revenue Agency (CRA).
These are the small businesses tax rates for each province:
Ontario
Lower rate: 3.2%
Higher rate: 11.5%
Québec
Taxed at combined federal and provincial rates.
The first $500,000 is at 20.5% (9% federal and 11.5% provincial), then at 27%.
If a business employs staff for 5500 hours annually, the provincial rate drops to 3.2%.
British Columbia
Lower rate: 2%
General rate: 12%
Alberta
The general corporate income tax rate is 8%. It is one of the lowest rates in Canada.
The small business tax rate is 2%.
Manitoba
Lower rate: 0%
Higher rate: 12%
Saskatchewan
Lower rate: 1% as of July 1, 2023
Higher rate: 12%
Nova Scotia
Lower rate: 2.5%
Higher rate: 14%
New Brunswick
Lower rate: 2.5%
Higher rate: 14%
Newfoundland and Labrador
Lower rate: 3%
Higher rate: 15%
Prince Edward Island
Lower rate: 1%
Higher rate: 16%
Northwest Territories
Lower rate: 2%
Higher rate: 11.5%
Yukon
Lower rate: 0%
Higher rate: 12%
Nunavut
Lower rate: 3%
Higher rate: 12%
How to calculate your small business tax rate
The first step to calculating your small business tax rate is to ensure your business is a CPCC by checking the eligibility rules. Next, ensure your business income qualifies as active business income. Then make sure your taxable income is within the small business deduction limit.
If you qualify for the deduction, your federal tax rate is 9%. Determine the provincial/territorial small business tax rate. If you’re in British Columbia, your provincial rate is 2%.
Add your federal rate to your province or territory’s rate to get your combined small business tax rate. For example, if you live in British Columbia, at 9% and 2% to get 11%. Your combined tax rate is 11%.
Apply your combined tax rate to your taxable income. For example, if your taxable income is $100,000 and your combined tax rate is 11%, you owe $11,000 in taxes. ($100,000 x 0.11 = $11,000).
Tax due dates
Your small business tax due date is within six months of the end of your tax year. The tax year is based on your fiscal year. For example, if your fiscal year ends on March 31, your tax year would end on September 30.
How to reduce your tax burden
Small businesses can also claim tax credits to reduce their tax bill. Investment tax credits allow you to claim scientific research and experimental development activities.
Environmental tax credits give a deduction for operating more sustainably. Such activities might include investing in hybrid or electric vehicles or reducing water use.
Capital Cost Allowance (CCA) is another tax deduction. It allows you to claim a deduction for the depreciation of your tangible assets. These might include property, vehicles and equipment.
Input tax credits allow you to claim back the GST/HST paid on eligible business expenses. The hiring credit for small businesses may give you a tax credit for hiring more workers. This depends on your eligibility and specific program details.
Disclaimer
Xero does not provide accounting, tax, business or legal advice. This guide has been provided for information purposes only. You should consult your own professional advisors for advice directly relating to your business or before taking action in relation to any of the content provided.
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