Small Business Deduction – not everyone qualifies

13 November, 2014

Small Business Deduction – not everyone qualifies
The CRA has yet again won a court case where two corporate taxpayers were claiming the small business deduction only to have it denied as each company was found to be ‘personal service business’ (see 1165632 Ontario Limited, 2014 DTC 1184).  This is important because the combined corporate tax rate in Ontario at the time of this writing is 26.5% unless the company qualifies for the small business deduction, then it drops to 15.5% – that is an 11% lower tax bill.  A personal service business does not qualify for the small business deduction.  Further, the expenses a personal service business are allowed to deduct are very restricted, generally limited to only those items that an employee could deduct (i.e. home office, use of auto, …).  Lastly, a company that does not qualify for the small business deduction also does not qualify for the lifetime capital gains exemption on qualifying small business shares, currently $800,000.
Subsection 125(7) of the Income Tax Act defines a “personal services business” to be a business of providing services being carried on by a corporate taxpayer through an employee who could be reasonably regarded as an officer or employee of the person or partnership for whom the services are being provided, but for the existence of the corporate taxpayer.

The issue, therefore, is whether a person would have been an employee of the  client company (“ClientCo”) if that persons company (“ConsultCo”) did not have any agreement or management contracts with ClientCo. Determining the existence of an employer-employee relationship requires an analysis of certain factors associated with that relationship (i.e., control, tools, opportunity for profit, and risk of loss; see Wiebe Door Services Ltd. v. MNR, 87 DTC 5025 (FCA)). Applying these factors to the person’s relationship with ClientCo, if the conclusion is that the person would have been an employee of ClientCo if Clientco’s business management contracts had not been with the ConsultCo but with the person directly then ConsultCo is a “personal service business”.

 It is always a good idea to sit down with your tax professional, such as Numbers Plus Professional Corporation, to have a detailed discussion of your plans and consideration to issues such as this need to be taken into account.


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