Operating a business at any scale involves a number of expenses; which, thankfully, are tax-deductible. Falling into different categories, the cost of operation includes everything from a lease to insurance to inventory. To reduce your company’s annual tax burden, identifying all possible tax deductions is important. With a business expense, the amount gets removed from gross income. This, in turn, reduces the taxable income itself. Whether you have an existing business loan or are considering one, understanding the tax ramifications goes a long way.
Are Business Loans Tax Deductible?
Business loans have both taxable and tax-deductible components. When you make payments toward the loan principal, the earnings used remain taxable. The principal loan amount does not constitute a part of business operations. It is an amount the business received and subsequently repaid. Conversely, the amount paid representing interest is considered a business expense; and, therefore, is tax-deductible. This is because the loan proceeds are used by the business, making interest payments a price paid to operate. By properly tracking the interest you pay, it’s easier to prepare your business taxes.
Can You Deduct Your Business Loan Interest Costs?
When deducting business loan interest, the specific amount you can claim depends on four key factors:
- Intent to earn: To claim this expense, the company must showcase that it’s using the loan proceeds with a view to generating revenue. The earnings are not required to exceed the interest.
- Interest repayment schedule: In order to deduct the interest costs, the business must have paid them during the taxable year for which you’re making the claim. This includes compound interest, with the deduction only available year-of.
- Legal expectation: Qualifying for this deduction requires a legal mandate to repay the interest. This prevents businesses from claiming non-existent interest. To check that the interest meets the necessary criteria, consider whether the lender can take legal action if you do not pay it. If the company is legally required to pay, then it is a business expense.
- Reasonable value: The amount of interest you repay must be reasonable pursuant to standard market value. This is set forth by Revenue Canada and works to prevent companies from making false claims and serves as a benchmark for reasonable interest.
In Quebec, provincial tax regulations set the deduction limit as the investment income limit. While you can backdate unused expenses for three years and keep them indefinitely, the annual claim is fixed against investment metrics. Throughout the rest of Canada, you can claim the interest without substantiating earnings.
Are Business Loans Considered As Taxable Income?
The majority of business loans are not classed as taxable income, given the need to repay it to the lender. As a result, businesses are not legally required to claim the loan income when filing taxes. Since the loan is classified as a liability, at no point does it fall into the income category. A noteworthy exception is in situations of debt forgiveness. Companies filing for insolvency have different tax requirements for the loan amount. Since the amount lent was spent by the company, not repaid, and then forgiven, it is considered taxable income.
What Expenses Can You Deduct As A Business?
In order to minimize their tax burden, finding all the possible deductible expenses your business has at its disposal is an essential step. In order to substantiate the claim, keeping receipts is essential. Among the tax-deductible business expenses are:
- Business start-up expenses: Your company can deduct costs incurred prior to commencing business operations. The caveat is that your company can only make a claim for expenses incurred if the business operated during that period.
- Business tax, licencing costs, regular dues, and fees: Most fees you pay related to running your business may be tax deductible. For example, incorporation fees, registration, licensing, etc. Obviously, there are always exceptions and it’s important to speak with a professional if you have any questions or concerns.
- Office expenses and supplies: Even if the item is used indirectly, provided it contributes to business operations, it counts as a tax deduction. For instance, a software company can deduct the cost of pens, since the supply contributes to business earnings.
- Home office expenses: Calculated based on the square footage of the office space relative to the home, this deduction enables you to take a percentage of home expenses and claim them for your business. Among the possible claims are property taxes, rent, mortgage interest, maintenance costs, utilities, and insurance. The claim must accurately represent the space used by the business in the home.
- Management and administration fees: The fees associated with banking or merchant services count as business expenses. Provided you spent the fee for the purpose of business, you can claim it. An example is being able to claim banking fees on your business account, yet not your personal savings account.
- Interest and bank charges: If your company incurred interest on borrowed funds, your business can claim it – to a limit. The money must go toward property acquisition or other business operations, and there must be a good faith intent to earn.
- Business advertising: Whether digital, via radio, television, or print media, advertising fees are tax-deductible. The advertisement must be for the business and be made in a good faith attempt to promote the company, with a view to generating revenue.
- Rent and property taxes: If you paid rent on any property used during business operations, you can deduct that amount. This applies whether the rent is paid for land or real property.
- Insurance: The business can deduct any company-related insurance fees. This applies to insurance on the office space, equipment, and machinery. It does not include motor vehicle costs, as this falls into a different category. Car insurance falls under motor vehicle expenses and must be claimed as such.
- Telephone, internet, utilities: Provided you incurred the expense to generate revenue, then your business can claim the utility. Possible claims include heating, water, or cable. Keep receipts for the service; and, should only a part of it be a work expense, the claim must accurately represent that percentage.
Minimizing Business Tax Debt
If your business is facing a high tax burden or is dealing with a lot of tax debt, there are available solutions. By taking certain steps, you can minimize the cost of taxes associated with operating your business.
The first option is to take steps to minimize your tax burden as you go, keeping track of all possible deductions. By maximizing deductible interest on loans, you take a major step toward reducing the tax burden. Keep receipts for everything, either in paper or digital format. Set aside enough funds to cover your tax burden using a worst-case scenario approach. This can help ensure there is enough to cover the eventual tax bill. If you remain under a heavy tax burden, you can:
- Contact the Canada Revenue Agency: The first step is to contact your creditor directly, informing them of the situation. Ultimately, all creditors want to get their money, and approaching a payment plan can help both parties. It can also help you maneuver around potential penalties.
- Look into personal loans: Whether by pursuing a better interest rate or simply ensuring that you can repay the amount regularly, personal loans can cover tax debt. You can use this type of tax loan to avoid possible penalties for non-payment.
- Approach debt consolidation services: If you continue to struggle and do not have a plan to get out of debt, consult with a debt consolidation professional. In a type of loan, the creditor purchases your existing debt, selling it back to you at a lower interest and with a single fixed payment schedule.
In most cases, provided you plan ahead (like researching tax deductions and making a budget), your business can pay taxes as required.
Business Loans Tax Deductibles FAQs
Is my business loan interest still tax-deductible if I refinance my loan?
Is your business loan interest tax deductible?
Are interest charges due to unpaid debt tax-deductible?
When it comes to calculating tax deductions for your business, planning ahead is far better than reactionary thinking. Determining the best business loan is about more than simply integration and amortization, it is a matter of optimizing taxes as well. Understanding how a potential business loan would impact your tax burden gives a better picture of your financial landscape.
Even if you are managing an existing loan, using your potential deductions, including interest paid during the fiscal year, can contribute to financial health. Be sure that the loan interest qualifies in your taxable jurisdiction; and, so long as it meets the necessary criteria, your business can save significantly.