Beginner’s guide for self-employed taxes

To read more chapters, click below:

Chapter 2: Determine if you are an employee or an independent contractor

Chapter 3: How to complete your tax filing as a sole proprietor?

The taxation system for self-employed people in Canada is different from those who are employed. This chapter discusses the complete tax guide for self-employed people in Canada.

Let’s start by understanding what does it mean to be self-employed in Canada.

Being self-employed in Canada means that you are operating a business or providing services as an individual without being employed by someone else. In other words, you work for yourself and are responsible for managing all aspects of your business, including finding clients or customers, setting prices, handling finances, and fulfilling the work or service you offer. There are three classifications of being self-employed in Canada –

• Independent contractor

Independent contractors provide services to clients on a project basis. They are not employees of their clients but rather self-employed individuals who offer their expertise in exchange for payment. You can be a freelancer in various fields like – content writing, graphic design, financial consulting, data analytics, social media management etc. They have the flexibility to choose their clients and projects but are responsible for managing their own business operations and taxes.

• Partnership

A connection or affiliation involving two or more individuals, corporations, trusts, or partnerships collaborating to conduct a trade or business. Every partner brings forth financial resources, effort, assets, or expertise to the partnership. In exchange, each partner is granted a portion of the business's profits or losses. Typically, the allocation of business profits (or losses) among partners follows the guidelines outlined in the partnership agreement.

• Sole proprietor  

A sole proprietorship is the simplest form of self-employment. As a sole proprietor, an individual runs a business independently, without the involvement of partners or shareholders. The business and the individual are considered the same legal entity. The sole proprietor is responsible for all business decisions, liabilities, and profits. They report their business income and expenses on their personal income tax return using Form T2125.

Keep these points in mind if you are not sure whether you’re an employee or if you are self-employed.

• Nature of work relationship
• Level of control
• Ownership of tools and equipment
• Opportunity of profit or risk of loss

Types of self-employed taxes

If you are self-employed, you need to pay the following taxes –

• Federal income tax
• Provincial income tax
• Canada Pension Plan
• Employment insurance contributions if you opt into the program.
• Goods and services tax, harmonized sales tax and /or provincial sales tax if applicable.

Difference between being an employee and self-employed in Canada for tax purpose

In your role as an employee, your employer provides you with a T4 slip, and your earnings undergo tax deduction every time you receive your paycheck. However, in the case of self-employment, there isn't an employer deducting taxes from your earnings. Consequently, you're responsible for making your own projected tax payments every quarter, and you have the ability to deduct work-related business expenses.

Individuals who are business owners can claim deductions that exceed those available to the typical wage earner.

If you're operating as a self-employed individual, you'll need to include all your earnings and expenditures in your personal tax filing. Whether your income comes exclusively from self-employment or combines earnings from both self-employment and a regular job, you can consolidate these aspects into one tax return. The taxes you owe are determined by the current federal income tax rates for the year, along with the relevant provincial or territorial tax based on where you live.

How to calculate taxes for self-employed people in Canada?

In Canada, the income tax system functions on a graduated scale, implying that the rate at which you are taxed is dependent on your yearly earnings. The exact amount of tax you are liable to pay can only be accurately calculated once you gather all the relevant information for your tax return, taking into account applicable expenses and deductions. Nevertheless, you can estimate your tax liability by considering the annual adjustments in tax rates and income tax brackets. This approach allows you to form a general idea of the taxes you might owe based on your anticipated income.

Federal tax rates of 2022

• 15% on the first $50,197 of taxable income, plus
• 20.5% on the portion of taxable income over $50,197 up to $100,392, plus
• 26% on the portion of taxable income over $100,392 up to $155,625, plus
• 29% on the portion of taxable income over $155,625 up to $221,708, plus
• 33% on taxable income over $221,708

Provincial tax rates are based on which province of Canada do you live in.

Tax deductions for self-employed people in Canada

As a self-employed individual, you have the option to deduct specific business-related expenditures from your income, effectively reducing your taxable income and lowering the amount of federal taxes you're liable for. It's important to maintain receipts for the expenses you intend to claim.

These eligible expenses encompass various categories, including but not limited to –

• Advertising costs like business cards or online promotional efforts
• Vehicle-related expenditures such as maintenance, insurance, and fuel
• Banking charges
• Office supplies
• Cell phone and utility expenses
• Professional fees
• Travel costs
• Select meal and entertainment expenses

The CRA website provides a comprehensive list of common business expenses that can be deducted from your taxes.

How to file taxes as a self-employed person in Canada?

If you're self-employed, it's your responsibility to declare all your earnings and costs within your personal tax return. This means that whether your income solely originates from self-employment or you have a blend of self-employment earnings and standard income from an employer, you can consolidate them in a single tax return.

The amount of taxes you owe is determined by the federal income tax rates applicable for the year, in addition to the provincial or territorial tax that corresponds to your place of residence.

Keeping a comprehensive record of all the receipts and invoices associated with your business expenditures is of great importance. This practice serves a crucial purpose in enabling you to maximize your potential tax advantages. By meticulously documenting these financial transactions, you create the opportunity to potentially reclaim funds that can then be strategically reinvested back into your business. This not only supports your business's financial health but also contributes to its growth and sustainability.

Eligible expenses for self-employed people in Canada

Regardless of the extent of your self-employed earnings, you possess the capacity to subtract your business-related costs. When it comes to offsetting expenses against your business earnings, there's a wide scope for deduction. Essentially, any items or resources used to generate profit hold the potential for being deductible.

Frequent deductions for self-employed individuals include the following –

• Business Operational Costs like advertising expenditures, shipping fees, office supplies, and communication services.
• Vehicle Costs encompassing fuel, repairs, maintenance, insurance, leasing expenses, and registration charges.
• Initial Investment Expenses such as necessary inventory, machinery, or equipment to initiate regular business operations.
• Professional Fees for legal, accounting, and similar services.
• Travel Expenditures including fares, lodging, and conference expenses.

Tax deadline for self-employed people in Canada

For self-employed individuals in Canada, the deadline to submit their yearly tax returns for the previous year is extended until June 15. However, any owed taxes must be settled by April 30, which is the same deadline applicable to employed individuals.

If your anticipated annual income tax owed surpasses $3,000 ($1,800 for Quebec residents), you'll be required to make quarterly tax payments. These installments are typically due on the 15th of March, June, September, and December each year.

It's crucial to stay vigilant about your tax responsibilities and ensure timely and complete payments based on your designated schedule, whether it's quarterly or annually. This diligence will help you evade any potential interest charges or penalties.

Information you would need while filing your tax

For individuals who are newly self-employed and facing their initial tax filing, the process might appear a bit overwhelming. But if you have all the information handy with you, the process will become smooth and hassle free. Given below are all the details you would need to file your tax as a self-employed person.

1. Personal details

• Submit names, birthdates, and Social Insurance Numbers (SINs) for yourself, your spouse, and any dependents.
• submit documents and receipts for items that are not related to your self-employment activities, such as T slips from investments or regular employment, RRSP contributions, moving expenses etc.

2. Self-employment information

• The designation and location of your "business." If your business doesn't possess an official name, using your name and address is acceptable.
• The industry code that corresponds with your field of work.
• Your GST/HST number, partnership number, or business identification number. If none of these are applicable, there's no need for concern. Their provision is not obligatory for filing your return.

3. Income

The income you earn from your self-employment endeavors is categorized as your "business income." It's important to gather and organize all the invoices, banking statements, and any records you've maintained to track your earnings. These documents collectively provide a comprehensive view of the income you've generated from your self-employment activities. By meticulously compiling these records, you ensure accurate reporting of your business income, which is a vital aspect of fulfilling your tax obligations and also helps maintaining financial transparency.

4. Self-employed expenses

Depending on the scope of your self-employment, your expenses can span from minor costs to significant outlays. It's essential to gather and organize all your receipts, invoices, and statements that form the basis of your deductible expenses. By meticulously assembling this documentation, you ensure that you're able to accurately account for the various costs associated with your self-employment activities, potentially resulting in reduced taxable income and increased financial benefit.

Frequently Asked Questions (FAQs)

1. Are work clothes tax deductible for self-employed people in Canada?

In the context of self-employment in Canada, clothing expenses are typically not considered eligible for tax deductions. While there are various expenses that self-employed individuals can deduct to reduce their taxable income, clothing expenses are generally excluded from this list. This is because clothing is often seen as a personal expense, even if it's worn for business purposes.

2. What is the income threshold before self-employed taxation applies in Canada?

All earnings obtained through service provision or product sales are subject to taxation.