How to Know If You’re a Personal Services Business & What That Means for Your Taxes
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There are over 1.2 million small businesses in Canada, but many of these could actually be personal services businesses. This classification comes with a number of tax implications that could impact your bottom line. And ignoring the classification doesn’t make it go away: you could be leaving your business open to penalties and back taxes by not properly classifying your business.
Keep reading to find out everything you need to know about personal services businesses and what that means for your taxes.
What’s a Personal Services Business?
A personal services business (PSB) is a situation where an individual is incorporated and provides services to a company, but where they would be considered an employee of their client if they weren’t incorporated.
A great example of this is a trucker that receives a contract from a trucking company, but he needs to be incorporated to win the contract. Once he does, he uses the trucking company’s equipment to perform the work and invoices the trucking company from his incorporated company, whose sole income is from the trucking company.
This trucker’s business is considered a personal services business because he’s essentially functioning as an employee of the trucking company, uses their equipment, and has no other clients. Were it not for being incorporated, he would be an employee of that trucking company.
Personal Services Business vs. Small Business
While you might consider yourself to be running a small business or self-employed, if you operate like an employee of another company (by using their equipment, having little control over your schedule, etc.), the government will likely consider you a personal services business.
With that designation comes a number of tax implications; namely, that you’re not eligible for the small business deduction, essentially losing the favorable tax rate on the first $500,000 of active income. In Ontario, that means you’re subject to a PSB tax rate of 44.5%, rather than the small business rate of 9%.
Another consequence is that PSBs can’t deduct as many expenses as small businesses. PSBs are allowed to deduct just the following expenses:
How to Avoid Becoming a Personal Services Business
If you’re looking to avoid being considered a personal services business, you’ll need to take a few key steps. First, you’ll want to establish a clear, written contract with your client that outlines all the terms of your working relationship. Next, you’ll need to show that you’re not essentially an employee of your client by establishing your own schedule, purchasing your own equipment if possible, deciding your tasks, and more. If you can afford to hire someone, even better.
As well, if you can find other clients, it helps show that you’re not entirely dependent on that one client and more likely to be self-employed rather than a personal services business. Even the act of marketing and advertising your business helps show that you’re looking to gain more clients.
Note that if you think you’ve misfiled in past years, there’s a Voluntary Disclosure Program that can help you correct previous tax returns while getting financial relief from potential penalties and interest.
The Bottom Line
Although you might not consider yourself a personal services business, the government might. And avoiding accepting that could cause you to misfile your taxes, be audited, and be left on the hook to pay back significant taxes owed, as well as penalties and interest.
If you think you may have incorrectly filed in the past, reach out to us today. We can help ensure you file your taxes correctly and correct any past issues, so that you can feel confident about your business and its financials going forward.
- the salary and wages paid to incorporated employee(s)
- any benefits provided to incorporated employee(s)
- certain expenses of the corporation associated with selling property or negotiating contracts
- legal expenses incurred by the corporation in collecting amounts owing
How to Avoid Becoming a Personal Services Business
If you’re looking to avoid being considered a personal services business, you’ll need to take a few key steps. First, you’ll want to establish a clear, written contract with your client that outlines all the terms of your working relationship. Next, you’ll need to show that you’re not essentially an employee of your client by establishing your own schedule, purchasing your own equipment if possible, deciding your tasks, and more. If you can afford to hire someone, even better.
As well, if you can find other clients, it helps show that you’re not entirely dependent on that one client and more likely to be self-employed rather than a personal services business. Even the act of marketing and advertising your business helps show that you’re looking to gain more clients.
Note that if you think you’ve misfiled in past years, there’s a Voluntary Disclosure Program that can help you correct previous tax returns while getting financial relief from potential penalties and interest.
The Bottom Line
Although you might not consider yourself a personal services business, the government might. And avoiding accepting that could cause you to misfile your taxes, be audited, and be left on the hook to pay back significant taxes owed, as well as penalties and interest.
If you think you may have incorrectly filed in the past, reach out to us today. We can help ensure you file your taxes correctly and correct any past issues, so that you can feel confident about your business and its financials going forward.