Basic Tax Implications for Canadian Entrepreneurs
 
Introduction
With the calendar year coming to a close and the first quarter of next year on the horizon, tax season looms large for Canadian businesses, employees, and entrepreneurs alike. It is important to distinguish the tax implications between individuals earning income from employment and self-employed individuals in an enterprising venture. This post outlines the general principles of how the tax system in Canada operates, how tax is assessed, and explores the implications for entrepreneurs operating a business in Canada.
 
The Source Concept of Income and Residency
The central document that determines the rules and processes behind Canadian tax is the federal Income Tax Act.[1] According to the Act, Canada taxes income earned based on the source concept of income. Section 3 of the Income Tax Act states that the income of a taxpayer for a taxation year is determined by… “the taxpayer’s income for the year from each office, employment, business, and property”.[2] Although there is no specific mention of when markers to use when calculating a “year”, for tax purposes, taxpayers calculate it on the calendar year.
 
Taxation is also based on the taxpayer’s residence. Canadian residents are taxed on world-wide income from all sources which are the office, employment, business, and property categories mentioned above.[3] Individual persons are determined to be Canadian based on their customary mode of life, the main indicators of which are an individual’s primary ties.[4] These include maintaining a permanent place of residence in Canada and whether or not you have a spouse or dependent(s) in Canada as well.[5] Generally, if a taxpayer permanently lives in Canada and has a family, there is no question as to the residency, and thus tax implications for that taxpayer. As entrepreneurs are generally advised to carry on their business through a corporate vehicle, there are different ways to determine residency for corporations. For corporations, the residency test looks to whether a corporation is incorporated in Canada either federally under the Canadian Business Corporations Act, or provincially with the Alberta Business Corporations Act.[6] Additionally, for companies operating in multiple jurisdictions, Courts will look to the test from DeBeers, which asks where the “mind and management” of the corporation resides.[7] In other words, one must determine where the Board of Directors of that particular company sits and makes decisions from.
 
For our purposes, individual residency is generally not an issue as most small businesses and growth companies start locally. For corporations, an entrepreneur may incorporate in other jurisdictions in which they operate in, so the mind and management test will play a large factor in determining residency, and thus the taxpayer’s tax implications.
 
Income for Businesses
The general formula to apply when calculating taxes is simple. First, the resident taxpayer determines the total of all amounts each of which is the taxpayer’s income from a source, which are listed but not limited to as office (elected officials), employment, business (entrepreneurs), or property (rental). Second, the taxpayer includes any taxable capital gains, which is income derived from the disposition (sale) of property like houses and shares. Next, deductions like moving and childcare expenses are removed from the total income. Finally, the taxpayer subtracts any office, employment, business, and property losses from their total income.[8]
 
A business is a profession, calling, trade, manufacture of any kind whatsoever and an adventure or concern in the nature of trade, but it does not include income from an office or employment.[9] Section 9(1) of the ITA lays out the initial starting point.[10] A taxpayer’s income for a taxation year from a business is the taxpayer’s profit from that business or property. However, the Act does not define what “profit” means, but common law jurisprudence indicate that profit means net profit.[11] Net profit is equal to the total revenue of a business less any expenses incurred earning that revenue, adjusted by specific rules contained in the Act. In the jurisprudence, there are a variety of cases that ask the question whether or not the impugned activity constitutes carrying on a business, or whether the activity is deemed to be a personal endeavours. However, as one of the main points the case law examines is whether or not the activity is being done for the intent to profit, and entrepreneurs go into business to make money, that is not a point that requires much discussion.
 
Deductions
Subsection 9(1) also contains the primary rule for business deductions through the definition of a taxpayer’s income from a business as the “profit from the business… for that year”.[12] As mentioned, profit from the business is defined to be net profit. This is determined according to accounting or commercial principles unless the principles are overridden by other provisions of the Act or case law. Therefore, the primary rule for deductions is net accounting profit calculations, less any reasonable expenses incurred in earning income from the business.
 
The concept of calculating profit and deducting expenses is a general rule that is subject to specific restrictions; section 18 of the Act specifically limits a deduction for certain expenses.[13] These restrictions have further exceptions from section 20 which serve to overrise section 18 and specifically allows a deduction of capital cost allowance.[14] Capital cost allowance is simply the depreciation of capital property over a certain period of time. Finally, section 67 imposes a generable “reasonableness standard” on the overall computation of profit and deductions and denies a deduction of expenses that are otherwise deductible to the extent that the amount of the expense is unreasonable.[15] Section 18(1)(a) provides that an expense is deductible to the extent that it is incurred for the purpose of earning income from a business or property. Stated colloquially by Imperial Oil, did the loss in business arise in the normal course of operations?[16]
 
The case law and Act also explicitly outlines expenses that are and are not deductible. Generally, personal or living expenses are not deductible under sections 9(1) and 18(1)(a). Additionally, expenses incurred when travelling to and from work, and expenses incurred from recreational facilities and club dues are not deductible either.[17] Some deductions like moving and childcare expenses are allowed; though not explicitly calculated in computing business income, it slots into the overall deductions framework. The rules surrounding moving expenses dictate that the deduction is limited to the income earned after the move and require the taxpayer to meet four criteria: (1) the purpose for the move must have been for work; (2) residences were actually changed; (3) the new residence must be in Canada; and (4) the new residence must be at least 40 km closer to the new work location.[18]
 
Finally, many entrepreneurs and employees are working from home in light of the COVID-19 pandemic. Section 18(12) of the Act allows for the deduction of income from a home workspace, subject to approval from the Canada Revenue Agency.[19] The CRA examines whether the spave is the individual’s principal place of business, meaning over 50% of the work occurs there, or if the space is used exclusively for the purpose of earning income from business and used on a regular and continuous basis for meeting clients, customers or patients of the individual in respect of the business.[20] According to the CRA, there are three types of workers who may qualify; these include employees, commissioned salespeople, and self-employed workers. Deductible expenses typically include utilities such as heating and electric home maintenance and supplies. Additionally, commissioned salespeople and self-employed workers can claim property taxes and home insurance.[21] Entrepreneurs may also claim a portion of their mortgage and capital cost allowance.
 
Conclusion
How an entrepreneur approaches their tax season has major implications for the overall viability of their business. Losses incurred from operating a business can be applied retroactively to past and future income, which allows the taxpayer to focus whatever resources they have into their venture. Due to the unique possibilities of potential businesses, the general rule does not enumerate the specific deductions an entrepreneur has to keep in mind, instead applying a reasonableness standard for expenses incurred. In order to gain a deeper analysis into the various tax implications to start-ups and growth companies, consultation with a tax specialist and professional accountant is highly recommended.

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[1] Income Tax Act, RSC 1985, c 1 [the Act].
[2] Ibid at s 3(a).
[3] Ibid at s 2(1).
[4] Thomson v MNR, [1946] SCR 209. 
[5] Denis Lee v MNR, [1990] TCC.
[6] Canada Business Corporations Act, 1985 RSC, c C-44; Business Corporations Act, 2000 RSA, c B-9.
[7] De Beers Consolidated Mines, Ltd v Howe, [1907] UKHL 626.
[8] The Act, supra note 1 at s 3(d).
[9] Ibid, at s 248(1).
[10] Ibid, at s 9(1).
[11] Daley v MNR, [1950]; Arcorp Investments Ltd v Canada, 2000 CanLII 16535 (FC).
[12] The Act, supra note 10.
[13] The Act, supra note 1 at s 18.
[14] The Act, supra note 1 at s 20.
[15] The Act, supra note 1 at s 67.
[16] Imperial Oil v MNR, 1947 CanLII 293 (FC).
[17] The Act, supra note 1 at s 18(1)(l); Henry v MNR, [1974] SCR 155.
[18] The Act, supra note 1 at s 248(1).
[19] The Act, supra note 1 at s 18(12).
[20] Canada Revenue Agency, Business-use-home Expenses (February 2019), online:  <https://www.canada.ca/en/revenue-agency/services/tax/businesses/topics/sole-proprietorships-partnerships/report-business-income-expenses/completing-form-t2125/business-use-home-expenses.html>.
[21] The Motley Fool, CRA Update: Work-From-Home COVID-19 Tax Break (July 2020), online: <https://www.fool.ca/2020/07/24/cra-update-work-from-home-covid-19-tax-break>.

Interest-Based Negotiation
Picture this: you’re an up-and-coming entrepreneur and starting an orange juice business. The problem is, you don’t have any oranges! So, being savvy, you go and find an orange supplier. You manage to find one and they are willing to sell you their last load of 500 oranges. The catch is, another party has approached the supplier and also wants to purchase the 500 oranges. The supplier has left it to both of you to decide who gets the oranges. [1]
 
So, what do you do? It might seem you only have two options. Either one of you gets all 500 oranges or you find a way to divide the load. Either way, someone is walking away from the supplier without all 500 oranges. So, naturally you and the other party go back and forth arguing over prices and are fighting for every orange.[2]
 
ENTER: Interest-Based Negotiation
 
What if you both could get all 500 oranges? You, being that savvy entrepreneur, decide to ASK the other party what they need the oranges for. It turns out, they are making a serum out of orange rinds. You acknowledge that you only need the juice. And voila – you decide to split the price of the load and you’ll each get the part of the orange you need! Everybody wins.
 
In this simple example, it was easy to find a solution beneficial to both parties if the right question was asked. This is the basis of Interest-based negotiation (otherwise known as principled negotiations, integrative bargaining or interest-based bargaining) - asking questions, uncovering the interests of the other party and collaborating to find a solution that works for everyone.[3]
 
Now let’s back up – what is negotiation?
 
Negotiation has many definitions, one definition is: “Negotiation is a basic means of getting what you want from others. It is back-and-forth communication designed to reach an agreement when you and the other side have some interests that are shared and others that are opposed”. – Fisher and Ury, authors of Getting to Yes[4]
 
In negotiations, people tend to think in ways that ultimately hurt their chances for the best deal, such as:
 
1.Negotiations are a zero-sum world and that the other party is an adversary.
2.Either you win or you lose.
3.You both only have your positions.
 
This thinking tends to limit negotiations, as then typically information is not shared among parties and often the best solutions are left aside. People stand firm with their positions and budging on them is felt as losing.
 
Interest-based negotiation removes the thinking of “positions” and replaces it with “interests”. Instead of demands, terms and ultimatums, you have underlying motivations, needs and concerns and THE WHY! [5]
 
The basic method of Interest based negotiations, outlined in international best seller Getting to Yes is as follows:[6]
 
People: Separate the people from the problem 
Every negotiator has two kinds of interests – in the substance and in the relationship.[7] They are interested in solving the substantive issues while also maintaining a good working relationship with the other party. Sometimes, strong emotions from the relationship of the parties can be wrapped up in the substantive issues in a negotiation and cause complications. It is essential that you disentangle the relationship from the substance and try to reach a better understanding of each party’s concerns. Base the relationship on mutually understood perceptions, clear two-way communication and a forward looking, purposive outlook.[8]
 
Interests: Focus on interests, not position

• asking why and why not;
• putting yourself in the other party’s shoes;
• looking behind positions for underlying interests; and
• crafting a solution that meets their interests and yours.[9]

 
Your position is something you have decided upon while your interests are what caused you to decide. [10] Shared interests lie latent in every negotiation, even if they are not immediately obvious.[11] Looking to interests instead of positions will allow you to develop creative solutions that can meet both party’s needs.
 
Options:  Invent options for mutual gain 
Having both a lot at stake and only thinking there is one possible solution inhibits creativity.[12] Do not settle on the first agreement made. Instead, brainstorm a wide range of options before choosing the best one. If getting to the ultimate agreement proves out of reach – try agreeing on smaller, “weaker” options like a provisional agreement or only agreeing on what you disagree about.[13] At least then some issues are discussed, and you have something to build on in the future.
 
Criteria:  Use objective criteria/standards. 
Rely on a fair, independent standard to settle differences.[14] Whether it is market value, replacement cost, an expert opinion or a particular law. People using objective criteria tend to use their time more efficiency to talk about possible solutions and outcomes.[15]
 
Best Alternative to a Negotiated Agreement (“BATNA”)
 
Your BATNA is the best-case scenario if you don’t reach an agreement. The better your BATNA, the more you can ask for in your current negotiation.[16] Understanding your own BATNA, but also the BATNA of the other party is crucial.

For example, you are at a car dealership. You are negotiating the price of a new car. Your current car works fine – you are just looking for a good deal. However, the salesperson has targets he must meet by the end of the day and is desperate for a sale. In this example, your BATNA is stronger than the other party’s, and thus you are able to push for a better price. If the deal doesn’t happen, you still will have a car to drive. It is important to remember that asking questions, doing research and putting yourself in the position of the other party is the only way for you to uncover their BATNA.
 
Knowing your own BATNA and also the BATNA of the other party not only allows you to negotiate more effectively but forces you to consider their interests, motivations and the WHY!
 
The interest-based negotiation method permits you to reach a consensus on a joint decision efficiently. Using this approach will not only benefit your own negotiations but can guide your thought process to overcome differences in many areas of life. Remember to ask questions, uncover the interests of the other party and develop creative solutions for mutual benefit.

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[1] David Wright, Law 508 – Negotiation (Faculty of Law, University of Calgary, 2019)
[2] Roger Fischer & William Ury, Getting To Yes: Negotiating Agreement Without Giving In, 3rd ed (New-York: Penguin Books, 2011).
[3] Wright, supra note 2.
[4] Fischer, supra note 2 at xxvii.
[5] Wright, supra note 1.
[6] Fischer, supra note 2.
[7] Ibid.
[8] Ibid at 23.
[9] Wright, supra note 1.
[10] Fischer, supra note 2 at 43.
[11] Ibid at 74.
[12] Ibid.
[13] Ibid at 71.
[14] Katie Shonk, “Principled Negotiation: Focus on Interests to Create Value” (13 July 2020), online (blog): Program on Negotiation Harvard Law School < https://www.pon.harvard.edu/daily/negotiation-skills-daily/principled-negotiation-focus-interests-create-value/>.
[15] Ibid.
[16] Ibid.

Sales Tax Obligations and Opportunities for Small Canadian Businesses
 Author: Vanessa Fisher

If you are a new company with plans to operate in Canada it is important to be aware of your sales tax obligations before you begin selling any goods or services within the country. This blog outlies the goods and services tax (“GST”) / harmonized sales tax (“HST”) regimes and walks through signing up for a GST/HST account online. Lastly, this blog explains how to collect and remit GST/HST to the Canada Revenue Agency (“CRA”) and provides guidance on the Input Tax Credit (“ITC”) system available to small Canadian businesses.
 
GST is a 5% tax applied to most items and services sold in all provinces and territories within Canada. Certain provinces (Ontario, New Brunswick, Newfoundland and Labrador, Nova Scotia and PEI) have combined their provincial sales tax with GST, utilizing a unique HST rate that is collected in the same way as GST.[1] When a business sells goods or services in Canada, they are required to add the applicable GST/HST rate to their selling price. The GST/HST is then collected by the seller at the point-of-sale and held until remitted to the CRA.
 
Businesses in Canada are not obligated to begin collecting and remitting GST/HST on their goods and services sold within the country until they are no longer considered a “small supplier” by the CRA. A business is no longer a small supplier once their revenue before expenses (that is, the company’s sales, not their profit) exceeds $30,000 in a single calendar quarter (three consecutive months), or over the last four consecutive quarters.[2] While collecting and remitting GST/HST is mandatory on sales that occur after this $30,000 threshold is passed, a small business can also elect to voluntarily register for a GST/HST account prior to this point and become eligible for Input Tax Credits (“ITCs”), a point I will return to.
 
How to Register for a GST/HST Account
In order to sing up for a GST/HST account, one must first apply for a Business Number (“BN”). A BN is a unique number assigned to your corporation that simplifies all your dealings with the CRA and is also necessary for filing corporate income tax, setting up payroll accounts, importing/exporting accounts, and GST/HST accounts. The registration for a BN also automatically creates an account for filing corporate income taxes.
 
The CRA’s business registration page[3] allows you to register your corporation with a BN at no cost. From there, you can create and add a GST/HST account (and any other accounts needed) on the same webpage. This process will also create a CRA e-portal for your business that allows you to update your corporate information, do your tax filings, and process payments to the CRA online.
 
How to Collect and Remit GST/HST
The GST/HST you charge your customers at the point of sale will depend on the GST/HST rate of the location where your customer is purchasing and receiving their order. The CRA calls this the place-of-supply.[4] For example, if your company is in Alberta and you sell an item of clothing for $10.00 to a customer residing in Toronto, you would need to apply the Ontario HST rate of 13% to the purchase price (for a total of $11.30), not the Alberta GST rate of 5%. In this scenario, Alberta is the place where the selling corporation resides, not the place-of-supply. However, if the customer physically comes to Alberta to purchase the clothing from a store in Alberta, the Alberta GST rate of 5% would apply to the purchase.
 
The CRA provides a useful Provincial Rates Table and GST/HST Calculator[5] to calculate what to charge on your sales to each province.
 
It is also important to note that Alberta, Nunavut, the Northwest Territories, and the Yukon have no provincial sales tax, and other provinces (as mentioned above) utilize an integrated HST, which means that only GST/HST is collected from sales in these provinces. British Columbia, Manitoba and Saskatchewan have a separate provincial sales tax (PST/RST/QST) and rules for collecting and remitting provincial sales tax are unique to the provinces. Provincial sales tax will not be considered in this blog, but obligations related to provincial sales tax should be investigated if your company ever plans to sell its products to customers in these provinces.[6]
 
Once you begin collecting and charging GST/HST (and any relevant provincial sales tax), you must also tell your customers that the sales tax is either included in pricing or will be added separately, and this information should be clearly indicated on your invoice with the rate being charged and your registration number.
 
Your business is also considered to hold GST/HST collected “in trust for the Crown” until you remit it to the CRA. This constitutes a kind of trust fund that comes into existence automatically when you collect sales tax from your customers. Failure to remit amounts collected to the CRA has serious consequences, so it is important to keep detailed records of your sales that supports the information you will send to the CRA when you file your GST/HST return at the end of each reporting period. [7]
 
Input Tax Credits and Zero-Rated Supplies
As mentioned, Canadian businesses are not obligated to begin collecting and remitting GST/HST until their sales exceed $30,000 in a single calendar quarter, or over the last four consecutive quarters. That said, for certain small businesses it might be worth voluntarily registering for your GST/HST account early, even if it is not required. One reason is to get a head-start on good record-keeping, as you will have to begin collecting and remitting GST/HST as soon as you register for your account. Volunteer registration also allows your business to make use of ITCs.
 
ITCs are basically a mechanism to offset your GST paid on expenses for the business against the GST collected from sales of the business. For example, if the GST/HST you pay on expenses incurred for your business was $1,000 for the reporting period, and the GST/HST collected from customers for your goods/services sold was $3,000, you can claim an ITC of $1,000 and therefore be required to remit back $2,000 to the CRA.
 
ITCs can be especially useful if you are registered for the GST/HST account and produce or sell zero-rated supplies. Certain goods and supplies are considered zero-rated by the CRA and therefore not subject to GST/HST charges on sales.[8] At the same time, a business selling zero-rated goods is still eligible to claim ITCs on the GST/HST paid or payable on purchases and operating expenses related to the commercial activities of its business.[9] In other words, a refund is available on GST/HST paid on certain expenses for the business despite not being required to collect or remit GST/HST to the CRA on sales. It is also advised to obtain professional advice from a lawyer and/or accountant to find out exactly what you can and can’t include as expenses in the business as this can be a complicated area to navigate.
 
Further Information
There is a wealth of information on the CRA website under the General Information for GST/HST Registrants [10] and GST/HST for Businesses [11] that provide further guidance on completing your GST/HST return and much more.

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[1] “Canada’s Harmonized Sales Tax Explained”, online: Investopedia <https://www.investopedia.com/terms/h/harmonized-sales-tax.asp>
[2] “Definitions for GST/HST (Small Supplier)”, online: Government of Canada <https://www.canada.ca/en/revenue-agency/services/tax/businesses/topics/gst-hst-businesses/definitions-gst-hst.html#smallsupplier>
[3] CRA Business Registration page:  https://www.canada.ca/en/revenue-agency/services/tax/businesses/topics/registering-your-business/bro-register.html
[4] “GST/HST rates and place-of-supply rules”, online: Government of Canada  <https://www.canada.ca/en/revenue-agency/services/tax/businesses/topics/gst-hst-businesses/charge-collect-place-supply.html>
[5] GST/HST Calculator: https://www.canada.ca/en/revenue-agency/services/tax/businesses/topics/gst-hst-businesses/charge-collect-which-rate/calculator.html
[6] “Charging Provincial Sales Tax on Online Sales” <https://www.thebalancesmb.com/charging-provincial-sales-taxes-on-online-sales-2948448>
[7] “Charge and Collect the Tax - What to do with Collected GST/HST”, online: Government of Canada                                           < https://www.canada.ca/en/revenue-agency/services/tax/businesses/topics/gst-hst-businesses/charge-collect-what-collected.html>

[8] “Zero-Rated Goods”, online: Government of Canada <https://www.canada.ca/en/revenue-agency/services/forms-publications/publications/4-3/basic-groceries.html>
(also, in speaking with a CRA agent, I was told that coffee is only a zero-rated good as long as it is in bean or grind form and sold in packaged bags. If you brew the coffee and sell it, it becomes taxable for GST/HST purposes).
[9] “Input Tax Credits (ITCs)”, online: Government of Canada <https://www.canada.ca/en/revenue-agency/services/tax/businesses/topics/payroll/benefits-allowances/remitting-gst-hst-on-employee-benefits/input-tax-credits-itcs.html
[10] https://www.canada.ca/en/revenue-agency/services/forms-publications/publications/rc4022/general-information-gst-hst-registrants.html
[11] https://www.canada.ca/en/revenue-agency/services/tax/businesses/topics/gst-hst-businesses.html