incorporated consultants may not qualify for the favourable 11% tax rate enjoyed by BC Corporations

Vancouver, BC -- (ReleaseWire) -- 08/15/2023 --As Chartered Professional Accountants in Vancouver, the team at Mew + Company help individuals and businesses to minimize tax burden. It's well known that BC corporations enjoy an 11% corporate tax rate on the first $500,000 of taxable income from active business due to the small business deduction ("SBD"). However, there are rules to take advantage of this special treatment, and some apply to consultants. For more, go to https://www.mewco.ca/blog/the-costly-consequences-of-pretending-to-be-an-incorporated-consultant-2/

Some consultants may have incorporated their service businesses to take advantage of the low corporate tax rate, not knowing that their corporate income does not qualify for the favourable 11% rate.

Currently, CRA is escalating their efforts in this area – identifying incorporated employees – also known as "personal services business" or PSB in the tax world and applying the appropriate tax rules to these businesses. The final tax costs could be dire for an incorporated business that is offside with this rule. To qualify as a self-employed consultant, one must avoid being regarded as an employee by the CRA. Hence, act like a consultant and not an employee.

Below is a sample list of what "real" consultants do to stay in business:

- print business cards
- develop a website with client testimonials
- have more than one client
- join business networking groups
- buy state of the art computer equipment to improve productivity
- set their own hours
- pay for office premises to meet various clients
- stay off the paying client's group benefit plans

These are just some of the more apparent criteria the CRA uses to differentiate a consultant from an employee. Failure to establish itself as a true incorporated consultant has dire tax consequences.

Personal services businesses can only deduct wages paid to those performing the services and other employment-related expenses (which are very limited). Secondly, the corporate profit is taxed at 50% (BC rate)—way higher than the favourable 11%.

Canadian corporate tax system is based on two corporate tax rates, currently 11% for corporate profits qualifying for the SBD and 27% for corporate profits not qualifying for the SBD. These rates, in conjunction with the eligible vs non-eligible dividend tax regime, are meant to bring integration.

PSB tax rate of 50% creates integration costs, even if the dividends are taxed as eligible dividends at the personal level.

Many corporations with ongoing projects often hire consultants on a full-time basis for a predetermined period, and for various reasons, these organizations often require the consultant to be incorporated. If the service provider does not meet the self-employed test, the best tax planning option is to reduce the annual corporate taxable income to zero by paying the service provider a salary and whatever travel expenses incurred to earn the salary. Then, there is no risk of reassessment if a CRA audit occurs.

The expenses a PSB is entitled to deduct are limited to the following:

- salary paid to the service provider
- employment benefits for the service provider
- expenses that would be allowed if the individual were a commissioned salesperson
- legal expenses incurred by the corporation to collect amounts owing to it

For corporations that used the small business deduction but are subsequently regarded as a personal services business during a CRA audit, the tax costs are high. First, expenses deducted outside of the allowed expenses listed above would be disallowed and taxed at the PSB rate of 50%. In addition to the corporate taxes, these draws will be taxed personally to the shareholder. In effect, the taxpayer pays tax twice on the same funds drawn from the corporation. And, of course, there would be interest and possible penalties.

The tax consequences of an employee pretending to be a corporation is costly.
For corporate tax planning of all kinds, the team at Mew + Company works to identify the best tax planning strategies for organizations and individuals looking to minimize tax burden. Learn more by reaching Mew's team of Chartered Professional Accountants at 604-688-9198.

About Mew + Company
Mew + Company, Vancouver, is an ideal solution to the taxation problem. With a simple philosophy of building long-lasting customer relationships, the company has been serving corporate clients in a variety of fields—including restaurants, real estate, retail, and the service industry. Investing in their specialist services will undoubtedly be fruitful for all kinds of clients.

To learn more about Mew + Company and discuss their services, log on to https://mewco.ca/

Lilly Woo, CPA, CA, CFE, CFP
Mew + Company Chartered Professional Accountants
604-688-9198