Whether it’s because they’ve decided to leave the corporate world to venture out on their own, reenter the business world after taking some time to raise children, or just capitalize on their skills and talents, more and more women are entering the ranks of business owners. According to Statistics Canada, in 2006 women accounted for one-third of all self-employed individuals, an 18% increase in 10 years.

Self-employment offers both rewards and challenges for women, and has unique income tax implications.

V=If the business requires fi nancing, be it in the start-up phase, during ongoing operations or in expansion, interest on loans used to earn income is deductible for tax purposes, even if the loan is secured by a home. Where a spouse fi nances the business through an interest-free loan or even a gift, there’s no attribution of business income. Hiring children is another way to achieve income splitting, but their salaries must be reasonable for the work done.

Operating a home-based business also allows tax-deductibility of home expenses. If the client has no other principal offi ce, or if the home offi ce is used to meet clients, a reasonable portion of mortgage interest or rent, property taxes, utilities, and repairs and maintenance may be claimed—based, generally, on the ratio of offi ce space to the total square footage of the home. It is even possible to claim depreciation in relation to the home offi ce, but this is generally not advised as it may limit the principal-residence exemption claim when the home is sold.

Other tax-deductible expenses include automobile costs, parking, business association fees, entertainment, convention expenses (a maximum of two per year), cellphones, computer depreciation (100% for computers and software acquired after January 27, 2009 and before February 2011) and salaries paid to assistants, including family members.

Businesses usually start out by being incorporated to allow the owner to benefi t from start-up losses, which can be applied against any personal income.

At some point, a small business owner will ask whether it makes sense to incorporate. Although tax generally won’t be the deciding factor, there are a number of tax advantages, the primary one being tax deferral.

The deferral happens because Canadian-controlled private corporations pay a signifi cantly reduced rate of tax on the fi rst $500,000 of active business earnings (approximately 12% to 16% in most provinces for 2009). This amounts to an approximate annual tax deferral of $112,000 to $140,000. The rate reduction is eroded for larger corporations with capital in excess of $10 million.

When that $500,000 of earnings (net of corporate tax) is eventually paid out to the owner-manager in the form of dividends, tax is paid at the individual level and the total combined tax is more or less equal to the tax the proprietor would pay had she earned the business income directly.

But, the longer those earnings remain in the corporation, the greater the benefi t associated with tax deferral. For corporate business income that’s in excess of $500,000, there’s still a deferral advantage, but it’s much smaller.

Other tax advantages of incorporating a business include:
› Availability of the enhanced $750,000 capital-gains exemption on the sale of shares of a qualified small business corporation;
› Possibility of income splitting with spouses and adult children by having family members subscribe to shares of the corporation and paying them dividends, and/or employing them in the corporation’s business;
› Reducing the potential tax cost associated with the deemed disposition of assets on the death of the owner by effecting an estate freeze; and
› Reducing potential probate fees on the owner’s estate.

Gena Katz, FCA, CFP, an executive director with Ernst & Young’s National Tax Practice in Toronto. Her column appears monthly in Advisor’s Edge.

Originally published in Advisor's Edge