Tax situation of a self-employed Canadian business owner is a bit more complex than that of an employee. So, what is the major difference between being an employee earning a paycheck compared to being self-employed? Well, when you are self-employed there are two areas where you differ from regular employees’ contributions to the Canada Pension Plan (CPP) and Employment Insurance (EI).
There are a ton of various terms for being self-employed. If you are sole-proprietor or a partner of a business, a freelancer, an independent contractor, or even doing Direct sales as a side hustle, all of these would fall under the umbrella of self-employed. CRA simply considers you to be self-employed if you are earning income by yourself, outside of an employer. You are self-employed unless you have formed a corporation. When you incorporate your small business, you are not technically self-employed for tax purposes.
There are scenarios where the worker or payer is unsure of the worker’s employment status, either can ask for the CRA ruling. The ruling determines the status of whether the individual is an employee or self-employed.
To request for CPP/EI ruling you can:
For more details see Guide RC4110, Employee or Self-Employed?
The time limit for requesting a ruling: A worker or a payer can request a ruling by June 29 of the year following the year to which the question relates. For example, if the concerned year is 2020, the ruling request must be made no later than June 29, 2021.
The Canada Pension Plan (CPP) is a mandatory defined-contribution plan that provides all individuals working in Canada with pension income when they retire. Any individual above 18 years of age, working in Canada and earning more than $3,500 a year, must contribute a percentage of their income to the CPP. The objective behind CPP is to help individuals replace some portion of their income when they retire.
Self-employed individuals are on the hook for both the employee and employer contributions. It means as an employee you only pay half of your CPP premiums and your employer pays the other half, but when you are self-employed you must pay the full premium amount. All salaries paid by the small business, including the owner-manager’s salary, are subject to CPP deductions at source (DAS).
When you turn 18, Service Canada starts collecting CPP contributions on the annual income you earn above $3,500 and up to the maximum pensionable earnings limit. The government sets a limit every year, depending on the average income and inflation. The following table mentions the CPP rates and limits for the years 2021 and 2020.
|Year||Yearly Maximum Pensionable Earnings (YMPE) – $||Self-Employment Contribution rate||Self Employed Maximum Contribution – $|
Self-Employment Contribution rate = Employee/Employer Contribution Rate * 2
Rate for the year 2021= 5.45%*2 = 10.9%
Rate for the year 2020 =5.25%*2 = 10.5%
Self Employed Maximum Contribution = (YMPE) * Self-Employment Contribution rate For the year 2021= (61,600 – 3,500) * 10.9% = 6,332.90
For the year 2020= (58,700 – 3,500) * 10.5% = 5,796.00
CPP contributions from self-employment are based on the net income of your business. To calculate your annual contributions at tax time, start with line 1 on 5000 – Schedule 8 (CPP Contributions on self-employment and other earnings) and transfer the numbers as directed to your personal tax return.
Self-employed individuals do not have to pay EI premiums, it is not mandatory when you are self-employed. However, under the Employment Insurance Act, self-employed Canadians, and permanent residents– those who work for themselves– can apply for EI special benefits if they are registered for access to the EI program. You can have access to EI special benefits if you register with the Canada Employment Insurance Commission. While this EI measure extends certain EI benefits to self-employed individuals, enrolment is completely voluntary.
Employment Insurance (EI) is a program designed for the self-employed. If you run your own business or control more than 40% of your corporation’s voting shares, this program can provide you with access to special benefits as early as 12 months after registering. The six types of benefits available are as follows:
Prior to claiming benefits, the self-employed Canadians are required to meet the following eligibility criteria:
Federal EI Premium rates and maximums
|Year||Maximum annual insurable income||Rate%||Maximum annual employee premium||Maximum annual employer premium|
After you register for the EI program, you will be responsible for paying premiums when you file your income tax return each year. You will pay premiums based on your self-employed income for the entire calendar year, starting the year you register. The CRA will confirm the amount of your premiums based on the self-employed income you report in your tax return.
Opting in for the program means you will need to register for the Self-Employed EI Benefit Program, and you can do so through your My Service Canada Account. When self-employed persons opt into the EI program to access special benefits, they pay the same EI premium rate as employees pay.
EI premiums are paid when the self-employed individual files his annual Income Tax and Benefit Return using Schedule 13 (Employment Insurance Premiums on Self-Employment and Other Eligible Earnings). Unlike with the regular EI program, self-employed workers do not have to pay the employer’s portion of EI premiums.
If you have got to do your self-employed taxes in Canada and you still have confusion about the management and impact of CPP and EI contributions considering your business, feel free to reach out to Filing Taxes at 416-479-8532. Schedule an NTR engagement appointment with us and take the first step towards proper management of your finances.