As grandpa used to say, there are only two things we’re guaranteed on this earth: death, and taxes. This post is going to be about the latter and we’ll detail out the big small business tax changes to expect in 2019.
The Canadian private sector employs over 11.5 million people, and small businesses account for over 70% of that employment. So, it’s safe to say that the hard work and entrepreneurial spirit of small businesses are the backbones of this incredible country.
Today, we’re going to look at how taxes are going to impact all of these incredible small businesses during this next fiscal year. As always, 2018 brought changes in the tax structure, and all small businesses in Canada need to be hyper-aware of these differences.
Small Business Tax Rate (SBD)
As promised, the CFIB fought to lower small business tax rates across Canada from 10.5% to 9%. While this is incredible news for many small businesses, it’s a little more complicated than it sounds. We’ll go over one of the nuances in a moment, but, first, let’s break down this change in the small business tax.
What is the small business tax?
The Small Business Deduction (SBD) tax — also known as the “small business tax” — is a tax “break” that’s applied on the first $500,000 of active business income. So, the first $500,000 in active income will be taxed at 9% (10.5% last year) instead of 15%, which means that this change will save small businesses a maximum of $7,500 per year.
Note: After the first $500,000, small business will be taxed at the general tax rate of 15%.
Passive Income Reduction (The Nuance)
Of course, there’s always a catch. The new passive income reduction is that catch. While the new SBD tax is great, the passive income reductions that the Canadian government has applied to that tax is, well, complicated.
Here’s how it works.
Your SBD tax deduction limit will be decreased by $5 for every $1 over $50,000 in annual passive income. Since most businesses invest money and receive passive income via holding returns, this rule may mean that many small businesses won’t see a dime of that small business tax rate.
Let’s take an example.
You own a small tree cutting business that operates in Alberta. Every year you pool money into investment holdings that payout at 4%. Currently, you have $1.35 million in these holdings. That’s $54,000 a year that you receive in “passive income.”
With the way that the new passive income reduction rules operate, you will only be able to receive the discounted tax rate of 9% for your first $480,000 worth of business.
($54,000 – $50,000) * 5 = $20,000 and $500,000 – $20,000 = $480,000.
So, if your business has over $150,000 per year in passive income, you will not receive any small business tax deductions, and your entire income will be taxed at the general tax level of 15%.
Canadian Pension Plan (CPP) and Quebec Pension Plan (QPP)
This year we will also both CPP and QPP increase. Last year, CPP had small business matching 4.95% of employee earnings. This year, that number rises to 5.1%. The same with QPP which will rise from 5.4% to 5.55%. It’s important to note that this new law increases both CPP and QPP year-over-year for the next 5 years.
Of course, these new rules may see employers paying thousands extra per employee over the coming years, and the majority of small business owners don’t like the change.
Now, 2019 will be the softest year of the change, as it’s set to be 5.95% for CPP and 6.4% for QPP by 2025.
Note: The maximum pensionable earnings will also be rising from $55,900 to $57,400.
Employment Insurance (EI)
EI rates are going down in 2019. While small businesses will still pay 1.4x what their employees pay, the EI rates are going down by five cents (7 cents in Quebec.)
This was to be expected given the low rates of unemployment. In fact, the Canadian government is adding an additional 5 weeks of pay when both parents share leave this year, which, in theory, would increase contributions. But, given the unemployment rates, EI rates are still going down.
If you want to know more about how much you’re paying for employee benefits across-the-board, check out this handy-dandy calculator.
Lifetime Capital Gains Exemption (LCGE)
The LCGE helps business owners shelter money when they dispose of (sell) their business. Currently, this number is tied to inflation. In 2019, LCGE exemption is at $866,912 for 2019.
Note: LCGE is reduced by your Cumulative Net Investment Loss.
New Income Splitting Rules
In the past, small business owners could pay dividends to family members (+18) to shelter money from taxes. This “dividend sprinkling” effect was one of the primary tax shelters for family businesses. By sharing the money among family members, small businesses could bypass a large chunk of the money that it had to pay.
But, 2019 has changed the game.
The new income splitting rules essentially eliminate dividend sprinkling. All dividends given to family members of small businesses will now be taxed at the highest marginal tax rate — 40%!
Luckily, there are some exceptions.
- Family members work in the business. If your family members work at least 20 hours a week during the entire 2019 tax year, they will still be eligible for the lower marginal tax rate.
- Family members invest in the business. If your family member has invested reasonably in your business, then they can receive reasonable dividends.
- Non-service businesses are exempt. If your business gets at least 90% of its income from non-services (consumer goods, import & export, etc.), they are exempt from the new income splitting rules.
Small Business Tax Changes: Final Thoughts
2019 is going to introduce some major changes to the tax ecosystem for small businesses. The new small business tax rate (SBD) is going to be a great boon for businesses who are just starting up and don’t invest heavily in passive income sources. The increase in both CCP and QPP are going to impact taxes for every single small business in Canada, and you can expect to pay more for each employee in your business. You’ll also be paying less for Employee Insurance. For those looking to sell, Lifetime Capital Gains Exemption’s rise should prove to be beneficial.
Of course, with all of these changes come more nuances. Every year, small business taxes get increasingly complicated. If you’re looking for a team of experts to guide you into the new year, contact us for a FREE consultation.