A Little on Income Sprinkling

income sprinkling, CRA

Income sprinkling is the concept of taking profits from a company and paying them out to family members, or other close people, in order to lower taxes and retain more of the revenue from the company. This can be done by paying someone from your family, usually a son, daughter, or spouse, who does little or nothing for the business. OFten they can do little for the business, and receive salaries that are not commensurate with their contributions. It can be as little as a few thousand dollars, it could be $30,000. Or it could be a lot more!

Income sprinkling has been something that has been against the spirit of our law for years. However, it has not been explicitly outlined as to what it is (not properly defined), nor what penalties would be in place for this. The legislation is still not passed. Part of the proposed legislation is that any company caught would be retroactively penalized. This means that if a company is caught for income sprinkling in 2018, then the CRA can review years past, as well. They may even choose to open prior years selectively.

My input? Don’t do it! It’s nice not to pay the taxes, if you can think you can get away with paying your spouse (or kid) for not working at your company. It’s also nice to be able to help them out if they are in a tough spot and need some help. Don’t pay them for nothing. Make them work! If they’re contributing, and they’re being paid a fair wage, commensurate with the contribution they are giving and industry rates, then there will be no issues. Yes, I’ve seen business owners pay their children or spouses who are not involved at all (or very minimally) in the business wages that are far above what they would earn for doing the same work for someone else. That’s income sprinkling.

Paying dividends to children or those over the age of 17 (adults) who are into actively involved in the business is also considered income sprinkling. Dividends are paid to owners of the company! He or she must be engaged in the business at least an average of 20 hours per week during the part of the taxation year that the business operates. If an individual does not satisfy this deeming rule, then it is a question of fact whether he or she was engaged on a regular, continuous and substantial basis. [CRA on income sprinkling]

My Mother Does My Books

It’s quite common that I hear this from young business owners (people under 30). Their mom could be a bookkeeper by trade or have done some spreadsheets and bookkeeping at some point in the past. And she may even know the software that they are using. But for me, as a professional tax advisor and accountant, this is a red flag.

Why? Most often I expect that there will be several errors. Either things are misclassified, statements of not reconciled, or reconciled incorrectly, there could be many items missing, and books are often “fudged” to make things work for reconciliations or because Mom didn’t know what to do with a particular transaction (often several of these). And if there are assets, they are almost guaranteed to be done incorrectly.

As a tax specialist, I often cringe when I hear, “My mom does my books.” Well, it could be “my aunt” or some other, usually older, relative.

And at least 90% of the people who say this will not want to work with me. That’s their choice, and I resbookkeeper, bookkeeping service, tax accountant, canadian taxes, alberta taxpect that. But I cannot respect the reason that I repeatedly see.  Mama doesn’t like to be corrected. Mom doesn’t want someone telling her that she made mistakes. Or the kid can’t handle the fact that Mom made the mistakes. And that often makes them feel that Mom is being disrespected.  No, I don’t think your mom is stupid. I merely think that she doesn’t know what she’s doing as well as I do. But I’m guaranteed to be trained better than she is, and have a much higher level of understanding of accounting and taxes. And that includes the bookkeeping that underlies this. And I know the software (usually QuickBooks) really well. And if I don’t, I understand the bookkeeping and accounting processes well enough that it doesn’t really matter!

I’ve had a couple of clients whose moms really appreciated that I explain to them why things are incorrect, and how to correct them for the future. These are great clients to work with! Inside of a year or two, the mistakes are almost gone (or are effectively gone). And the moms then can use that knowledge to improve their other bookkeeping work (if any). They appreciate the free help! And I appreciate that it makes future years easier to do. And I gain loyal clients.

Keep that in mind, if your mom does your books.

Business Tax Changes and Action to be Taken

Many people have recently noticed that federal Finance Minister Bill Morneau announced he will be considering certain business tax changes with the goal of “improving fairness in the tax system by closing loopholes and addressing tax planning strategies.”

Yet, it’s not quite so straight-forward as he would have us believe. The measures are quite complicated, and may affect small business owners in a very negative way. While some of the principles I have no issue with, such as proving that adult children who are receiving pay are actually contributing to the business, there are other items I do have problems with. This includes the high taxation of investment income in the corporation. This will increase the effective tax rate so much that it can become useless to hold money in the company. And the complications involved in figuring this out are so high that many small businesses will not (or do not) have the resources to understand or calculate the requirements on this.

If you want to see more details on this, here are some newspaper articles that have recently run to give you some more insight:

What can we do about it as citizens and small business owners? Currently, the government is accepting feedback on this, until October 2, 2017. To give your feedback write your MP. A simple note stating what you feel, why, and what action you would like your MP to take is sufficient. Me, I’m asking them to scrap the whole thing, even though it will make tax laws more complicated, which gives me more work. I’d rather people have a fair deal. Thanks!

To contact your MP, you can search by postal code here.

The Casual Labour Myth

I don’t know where the whole concept of hiring people under a label of “casual labour” and paying them cash came from. I have seen other websites (in Canada) that even advise that paying cash or casual labour is okay. They are wrong for many reasons.

CRA Doesn’t Recognize Casual Labour

Paying someone out of the til and then trying to expense this in the business is something that a lot of businesses want to do. The problem is, it isn’t permitted by the Canada Revenue Agency. Trying to write off this expense is a big flag to the CRA and could open up a company to an audit. At the very least, the company will be liable for any payroll deductions that are owed, including CPP, EI, and (possibly) tax deductions. Whenever someone is hired, they must be either an employee or a subcontractor. Therefore, even the kid you hire for an afternoon to help clean a store, or the old guy who really knows how to make the trim for that cabinet, has to be on payroll or have their own company, and be treated accordingly.

What About WCB?

Many businesses are required to cover employees with WCB. If you are a contractor, then your subcontractors must also be covered, unless they have their own coverage. Part of the responsibility of the business is to ensure that WCB coverage exists. This means that if someone is a subcontractor, it is necessary to check. The subcontractor should have their own WCB number that can be checked with the provincial board, usually online. If a WCB audit is conducted, then the business becomes liable for the amount of coverage that was supposed to be paid to WCB, plus any possible penalties.

subcontractor, check GST registration, contractor accounting, bookkeeping services, business tax, tax returns, subcontractor bookkeeping, subcontractorContractors, some of your subcontractors also want to charge GST! Ensure that they have a GST number, and that it is still valid. I can’t count the number of times that I’ve seen contractors pay the GST on a subcontractor’s invoice only to find that the number wasn’t valid. And that means that the contractor is unable to use the GST paid as an ITC, instead it becomes part of the expense. It is better for the business to have the ITCs, as that is 100% refundable, rather than as an expense, which only saves the tax rate (for combined small businesses in Alberta, this is 14%). Which would you rather have? You can check that on the CRA site here.

Your Best Option

Any employer should make sure that anyone hired, whether for a few hours or a few days, is either put on payroll or has a contract. Putting someone on payroll requires obtaining their social insurance number, date of birth, address, and setting a rate of pay. It also requires that deductions are done correctly. This can be found on the CRA website (here).

If a contractor is hired, then it is best to have a contract in place. This should include the rate of pay, whether hourly or by the job, as well as the pertinent information including their business number or SIN. Make certain that any subcontract states that the subcontractor is responsible for paying income taxes, CPP, and that they are a subcontractor, not an employee.

And it’s always a good idea to review any labour agreements you have with your accountant to be sure that they are in line with current legislation. If you have questions, please contact me, and I will be glad to help.

Being Forthright: Good Bookkeeping Practices in Small Business

While it’s not the rule, most small business owners (and the CRA) are aware that it’s possible to hide a few transactions here and there in a retail establishment and no one would be the wiser, even during an audit. Whether this is morally right or not is not at issue here and not relevant for this discussion. The biggest issue is what effect it has on the owner’s knowledge of the business and what is really happening. How can one know what is really happening if things aren’t tracked?

If an owner has a habit of hiding transactions, such as not ringing sales into the cash register, there are a few issues that should be addressed.  Whether this is honest or moral is not to address here. Such an action will never allow the true overall sales and cost of goods sold to be known. This makes it very hard to have accurate financial statements. And if an owner wants to turn from simply being self-employed to becoming a true business person, then this accuracy is important! There is also the issue of loss. When an owner fails to ring in transactions, it sets an example for employees, making it easier for them to follow suit. And then what happens to the cash from such transactions?

These discrepancies also make compiling financial statements, and the connected tax returns, more difficult for your accountant. How is the accountant to know when a classification is correct if there is no backup documentation to show why imbalances happen? Many accountants will take the safest route possible (for them) when deciding where to put such imbalances, since this is what is in “the public’s best interest” and written into the ethics codes of professional associations. But that isn’t always in the owner’s best interests, and it could be incorrect as far as what really happened.

Accounting, corporate tax, financial statement preparation

For example, if there is a few hundred (or thousand) dollars discrepancy on the balance sheet that shows some money came out of the company, but there is no way to show where or how, it is likely the safest move to consider it as money taken by the owner. While this is “in the best interests of the public”, and follows proper accounting guidelines, it does not favour the owner. Instead, it increases the owner’s personal income, which increases personal taxes. And if the discrepancy is because of missing expenses or stolen cash from un-entered transactions, a whole different set of financial statements and tax liabilities result. And there is the issue of the owner knowing what is really going on in the business! Perhaps there is loss happening that cannot be traced because the owner is also not entering transactions into the books. It would be in the owner’s best interests to know what the true picture of what’s happening in the business.

So, it’s actually in the owner’s best interests to track everything and to never try to “hide” transactions and income, as then the owner knows what is really happening in the business and can make better decisions and thus increase the profits of the business legitimately. And this is what true business ownership is all about.

GST for Annual Filers Due on March 31

Argh! Those pesky GST returns…

Every year, all GST registrants have to file these returns, whether they like it or not. For many small businesses this filing is only done once a year. The threshold is at $1,500,000 in “taxable supplies” (what does that mean?) to remain an annual filer. This means that if you have sales in your business (or businesses, because if you have more than one business they are considered together for the threshold purposes) over $1.5 million you have to start filing on either a quarterly or monthly basis, depending on your next threshold. If it’s more than $6 million, then you must file monthly!

The returns are fairly straight-forward if your records are kept really well! You have to declare the gross revenue of your company for the period (how much you billed); how much you collected in GST, and how much you paid in GST. What gets complicated for people is knowing which items in their books include qualifying Input Tax Credits (ITCs), and which don’t. There are some things that have them, but are sort of hidden (like parking fees). And there are some items that exempt (like certain grocery items).

Now, if you are at all confused about this, speak to us! Ask questions… It’s our job to help you out with these kinds of things. The big issue will be whether your company’s books are in order or not. If they are and you’ve claimed everything correctly, then it shouldn’t take you very long to fill out the form and file your return. If they aren’t, talk to us. We’ll help!

And don’t forget the March 31 deadline!

T4 and T5 Slip Deadline is February 28

With the February 28 deadline approaching, there could be some worries about getting these slips prepared on time. Depending on the size of your company, you should allow at least a couple of hours to complete these slips, including the summaries that must be submitted to CRA. If you have more than 10 employees or slips to prepare, you should consider getting someone else, such as Makes Cents, to prepare these for you.

The Canada Revenue Agency does have an extensive information page for employers on how to fill out and file all of the T4 information. There is quite the extensive amount of information, including all of the normal information as well as exemptions, deferred income, amending, and information on penalties and more. Go to their site now for more reading on this.

The T5 slip, for those of you who are unfamiliar with it, is the slip that is used for investment information. Most people will see one of these if they have open (non-RSP) investments that make money in the year, whether it’s interest income, dividends, or capital gains. What a lot of people, including some small business owners, are unaware of is that when a corporation pays dividends to its shareholders, this slip must be filled out, and the corporation must also file a T5 summary to CRA.

There are options for business owners on how to pay themselves. The easiest, for most people, is to take a salary, which requires monthly submission of personal tax with-holdings  However, there is also the option of dividends. Dividends are paid out from the corporation’s retained earnings – the amount of money left after corporate taxes are paid. If you choose this option for paying shareholders, it is required that the T5 information slip and summary be done before the February 28 deadline of the year they are paid in (for 2012, this deadline is February 28, 2013). The CRA has a webpage with more information about this here. There you can read all about the T5 slip, deemed dividends, and more. If these things are confusing for you, then you will need help from a professional. And that’s where we come in!

 

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