Answer
A personal services business (PSB) is a corporation that provides services that would typically be performed by an employee. The Canada Revenue Agency (CRA) has specific rules for PSBs, primarily to prevent individuals from incorporating solely for tax advantages that would not be available to an employee. KWB can help you determine if your business is classified as a PSB and navigate the associated tax implications.
Overview
This article explores the specific criteria and tax implications for a personal services business (PSB) in Canada. It outlines how the Canada Revenue Agency (CRA) defines these entities and the rules that apply to them. Understanding these distinctions helps business owners ensure compliance and avoid potential penalties.
- PSB Definition: discover what constitutes a personal services business according to CRA guidelines.
- Common Questions: find answers to frequently asked questions in our FAQ section.
What is a Personal Services Business (PSB) in Canada?
We often hear about individuals who decide to incorporate while working as an employee for a business. But is it really beneficial to do so?
Let’s look at an example. Joe works as an employee and earns employment income (a T4 slip) in Alberta. On July 1, he incorporates. Although he has incorporated, he continues to work for the same business in the same role.
This situation is known as a “personal service business”. PSB’s can be identified by the following characteristics:
- An incorporated employee
- Provide services
- Have fewer than five full time employees
- Own 10% or more shares in the incorporated company
- Works for only one customer, where they are regarded as an employee or officer
One of the biggest disadvantages if the CRA considers you to be a PSB is that your corporate tax rate would be significantly more, 37% compared to 12% for an Alberta small business. You recapture some of the extra tax cost through lower personal dividend rates, but it will end up costing about 13% on all income that was deemed to be PSB income.
Let’s assume that Joe’s corporation earns $ 500,000 per year. A calculation comparing the two types of corporations is shown below:
Regular PSB
Income 200,000 200,000
Corporate Tax 28,000 76,000
Net Income 172,000 124,000
Without the small business deduction or general rate reduction, you can see that the amount of taxes payable significantly increases, leaving less income to grow and invest in your business.
The deductibility of expenses for a PSB is also limited. Joe would only be able to claim the cost of salaries and benefits, and a few other allowable expenses.
If you think that there is a possibility that you might be a PSB please give us a call to discuss it. Finding out that the CRA has surprisingly reassessed you as a PSB would be a very costly event.
For more detailed information please call KWB at 780-466-6204 or email us by clicking here.
Thanks to Stephanie Kwan of KWB Chartered Accountants for providing this content.
FAQ
Navigating the complexities of personal services business tax rules can be challenging, so we’ve compiled answers to common questions to help clarify key aspects.
| Question | Answer |
|---|---|
| What specific criteria classify a business as a Personal Services Business (PSB) in Edmonton, Alberta, for tax purposes? | In Edmonton, Alberta, a Personal Services Business (PSB) is a corporation providing services where the individual performing those services would otherwise be considered an employee of the client. This classification hinges on factors like the worker’s control, ownership of tools, chance of profit or loss, and integration into the client’s business, determining its significant tax implications. |
| What are the specific tax consequences in Edmonton for incorporated individuals classified as a personal services business? | In Edmonton, incorporated individuals classified as a personal services business (PSB) face a higher corporate tax rate because they are ineligible for the small business deduction. This results in significantly less after-tax income for the business. The intent of these rules is to prevent individuals from converting employment income into lower-taxed corporate income. |
| What reasons do individuals in Edmonton, Alberta, have for operating as a personal services business (PSB) despite its potential tax disadvantages? | In Edmonton, Alberta, some individuals operate as a personal services business (PSB) for perceived benefits such as limited liability protection or to foster a professional image. However, the significant tax disadvantages in Canada, including in Alberta, often outweigh these advantages. This typically makes it an unfavourable structure for tax optimization. |
| How can businesses in Edmonton avoid being classified as a Personal Services Business? | To avoid Personal Services Business (PSB) classification in Edmonton, businesses should actively serve multiple clients, incur substantial business expenses, and maintain demonstrable control over their work. These actions help establish the corporation as an independent entity, thereby circumventing the significant tax disadvantages associated with PSB status. |