Why Am I Required to Pay Business Tax Instalments in Canada?

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Posted on: February 1, 2024

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    If you are reading this article, it is likely because you just finished your first year as a profitable business.

    So congratulations!

    You might be thinking: “I just paid my taxes for last year, now I have to prepay for next year? But why?”

    Well, the bad news is, you’re exactly right. When you are required to make installments, you either make the payments, or pay installment interest.

    Change how you think about instalments: A tool to help you run a successful business

    One of the biggest challenges that business owners have is knowing exactly how much money is “theirs”. We see it every year, new clients come to us with a problem: they have a massive tax bill and no cash left in their business. So what happened? The most common reason is because they took a “dividend” and did not anticipate their corporate or personal taxes that they needed to pay on those funds (to understand how dividends are taxed, see this article)

    For this very reason, we often recommend that shareholders pay themselves via a wage. This way, income taxes are remitted on a regular basis, often resulting in a refund.

    Ultimately, as a business owner, you need to have the discipline to pay yourself no more than what you are making (after taxes are paid).

    What are Instalments?

    Tax Instalments are payments required to be made throughout the year to cover the taxes normally paid in one lump sum on April 30 of the following year. These instalments are paid during the year while earning the income, similar to how an employer deducts tax directly from each pay period when paying employees.

    How do Instalments work?

    There are 2 parameters that work independently of each other:

    1. You need to determine whether you are required to pay instalments
    2. You will need to determine how much you are required to pay

    Requirement to pay instalments

    You are required to make instalments, if your balance owing before instalments (in any of the 2 prior years) is greater than $3,000

    How much are you required to pay?

    The total instalments required in a given year equals your total balance owing before instalments in the prior year. There are a number of scenarios that may occur:

    1. You pay the required instalments, and you owe significantly more than the prior year: You will not be assessed instalment interest because you made the required instalments.
    2. You do not pay the required instalments and you owe the same, or more than the prior year: You will be assessed instalment interest but it will be based on the instalment schedule.
    3. You pay the required instalments, and you owe significantly less than the prior year: You will receive a refund of the excess instalments, and will not be assessed instalment interest
    4. You do not pay the required instalments and you owe less than the prior year: You will be assessed instalment interest only if the balance owing is greater than $3,000 before instalments. However, the assessed instalment interest will be based on the balance owing in the current year rather than the instalment schedule (which will be less). In other words, if you will actually owe less than the prior year (or won’t be in a balance owing at all), then you can reduce (or eliminate) your instalment payments.

    Here is a chart showing the different scenarios, and the various outcomes:

    Tax owing is more is more the calculated required instalments for the yearTax owing is less than the calculated required instalments for the year
    Required instalments are paidNo instalment interestNo instalment interest
    Required instalments are not paidInstalment interest calculated based on instalment scheduleInstalment interest calculated based on the actual amount owing (rather than the instalment schedule)

    When will you need to pay instalments?

    There are various acceptable methods based on different iterations of the prior 2 years. See here for more details

    Instalment tips

    Our recommendation is simple: pay your instalments, don’t get behind, and always ensure you set money aside for all your tax liabilities (GST, payroll, income taxes). This is a fundamental element of running a successful business.

    Ready to Take Your Business to the Next Level?