Income tax for Canadian freelancers: Track your deductions

Updated for the 2020 tax year
Maybe you started a full-fledged business, maybe you just did your first freelance assignment; either way you need to know how to declare your self-employment income. Even if you plan to get an accountant to do your taxes, knowing what you can deduct and keeping your information organized will make the process faster and easier. In part 2, I talk about filling out your Form T2125: Statement of Business or Professional Activities.

Preparing for tax time

Even if you plan to dump the whole job on an accountant, keeping organized records throughout the year will make a huge difference at tax (or audit) time. From the simplest to the most sophisticated, here are four methods you can use:

1. Get an accordion file. File expenses according to category (not date).
2. Buy a notebook or accounts book and write down expenses and income according to category.
3. Set up a spreadsheet to track income and expenditures.
4. Use accounting software.

What records should you keep?

• The CRA suggests that in addition to tracking your income and expenditures you back up your records with source documents: sales invoices, receipts, contracts, bank deposit slips, etc.
• Make a note on your bank statement to explain any large deposits that are not business income. Seven years later you may be asked why you didn’t declare that money as income.
• If your bank doesn’t guarantee it will maintain your electronic records for six years from the end of the last tax year to which they relate, then you need to print or save your bank records yourself.
• Credit card bills aren’t considered equivalent to receipts (but by all means, save them as extra documentation).
• Print e-receipts or save them as clearly labelled PDF files.
• Consider photocopying or photographing paper receipts, because some of them are printed with ink that fades quickly.

Allowable deductions

Business use of home

• Proportion of home used for business: This can be calculated as either the number of rooms used for business out of the total number of rooms in the house, or as a percentage of the floor space. If you use a room for both business and personal use, estimate the percentage of the time that the room is used for business purposes, but if it’s used for business only, you can consider it to be used for business 24 hours a day.
• Allowable expenses: Rent, insurance, utilities, strata fees, maintenance, interest on the mortgage.

Taxes for corporations are way beyond the scope of this article, but one quick warning: if you have an incorporated company and you rent part of your house to the corporation, the capital gains on your house become taxable.

Phone

• Cell phone fees are deductible, but you are required to calculate the percentage of phone use for business.
• I’m told (but haven’t checked with the CRA) that with land lines, the monthly fee is only deductible if you have a separate line registered under the name of the business. If the phone is registered to you personally, you can only deduct long-distance business calls. (I imagine this is because local calls are not itemized on the bill, so there is no record of personal versus business use.)
• Phone hardware is deductible.

Internet

You can claim a portion of your internet expenses. Again, calculate what proportion of your internet use is for work. If you claim internet or a computer as business expenses, your internet traffic and computer contents become examinable in an audit.

Business use of car

• Tracking: Keep a mileage log. The easiest thing to do is to take an odometer reading at the beginning and end of the year and record either all business trips or all pleasure trips (whichever you do fewer of).
• Allowable expenses: gas, repairs, maintenance, depreciation, interest on a loan, lease payments.
• Note that the car has to be insured for business use.

Entertainment

This is one is tricky and often disallowed. Here’s what I’ve been told.

• The expense has to be for the purpose of getting or keeping business.
• The expense is generally incurred by taking a client out for entertainment.
• Only clients are eligible, not partners.
• Only 50% of the expense is deductible.
• Keep a record of the names of the clients and why you took them out.

Staff meals are a different situation. If you hire someone and part of the contract is that you will provide food, that expense is 100% deductible.

Travel

You can claim travel you need to do for work, or to get to professional development events. Your travel expenses will be deducted all together, but keep detailed records of how the expenses break down.

• Allowable: getting there, travel while there, accommodation, meals.
• If the trip is part pleasure and part business, prorate the claim accordingly.
• Travel meals: probably have to be outside the city and are only 50% deductible.

Research and professional development

• Professional development covers things like courses, books, and magazines.
• For research, keep records and make sure you can show a clear connection between what you bought and how it contributed to your business.

Capital cost allowance

This applies to anything that you buy—used or new—that has a useful life at the end of the year. Usually this will apply to items that you spend more than about $300–$400 on.

• For capital costs, you don’t deduct what you paid for the item; you deduct the amount that it depreciated during the year. Look up the percentage to write off in the classes of depreciable property list.
• If the business buys something that gains value (antique furniture or real estate, for instance) you will have to declare a capital gain when you sell it.

Bad debt

Since you are using the accrual method of accounting, you report your income in the year you earned it, regardless of when you actually get paid. So it might happen that you report income that you never actually receive. Say you did a contract in late 2019, reported the income in that year, and never got paid. You can deduct that income the next year as a bad debt. You could also file a correction for the 2019 taxes, deducting that income, but it probably looks better to claim the amount as a bad debt the following year; at least that way there’s an explanation.

Back expenses

If you forget to claim an expense, you can amend your tax return for that year to include the expense, and you will be credited with the corresponding saved tax (without interest). You can do this going back a maximum of six years.

Deductions not related to your business

• Medical: If your eligible medical expenses (not provincial medical plan premiums) are more than 3% of your income or $2,352, whichever is less, you can deduct them. You can claim medical expenses for any 12-month period ending in 2019 and not claimed in 2018. You can also transfer them between spouses, so make sure the lower-income spouse claims them. To find out whether an expense qualifies, see the list of eligible medical expenses and the list of authorized practitioners by province.
• Charitable donations can be carried forward for five years. (See “Carry forward” on the CRA page for Line 349: Donations and gifts.)

CRA links

• CRA: Sole proprietorships
• CRA: What is a business?
• CRA: List of common business expenses
• CRA: Free tax help for small businesses
• CRA: Corporations

The CRA help number for businesses and self-employed people is 1-800-959-5525. See the CRA phone numbers page for their hours.

Other tax information

See also:

• Income tax for Canadian freelancers, part 2: T2125 Declaration of business or professional activities
• Change to GST for BC freelancers