Tax Primer 1: Important Points to Remember When Filing Your Taxes

1. Persons working in the cultural sector fall into one of three categories for taxation purposes: employees, self-employed, and those with dual status (ie: employee for certain work and self-employed for other work during the same taxation year). If you are self-employed, for all or a portion of your income (55% of the cultural community), Revenue Canada considers that you are operating a business. It is important that you are clear from the outset as to which classification best defines your status. These are broadly defined as follows:

Employee
Are you working for a single organization, business or individual, either full time or part time, which pays you a set amount on a regular basis? The following work conditions normally apply to employees:

benefits deducted at source normally include coverage under employment insurance, workers compensation, paid vacation time, and employer-assisted contributions to CPP/QPP;
access to employer's pension plan, profit sharing plan, stock options, subsidized life insurance, etc.;
tax withheld at source on each pay cheque;
in calculating income at tax time, employees' allowable deductions are limited to those specifically enumerated under the Income Tax Act and include such things as union dues, pension plan contributions and the like.

Self-employed
(30% of the cultural labour force is exclusively self-employed*)
Do you operate as an individual contractor (eg: consultant, visual artist, writer, performer) with a number of clients, working out of your residence, studio, or in a variety of different venues? The following conditions normally apply to self-employed individuals:

must report income earned from all sources;
no coverage for employment insurance or workers' compensation;
double contribution (employer and employee portions) to CPP/QPP;
obligation to make interim tax payments on a quarterly basis;
in calculating income at tax time, the self-employee may claim all expenses related to the earning of income, so long as the expenses are "reasonable in the circumstances" and are not otherwise prohibited or restricted under the tax legislation. Such income is categorized for tax purposes as being from a "business".

With more and more companies opting to contract out services, another term is increasingly being used to mean self-employed: independent contractor. Revenue Canada considers these to be interchangeable definitions. However, some employers see the hiring of independent contractors as an alternative to hiring full time staff, thinking it will save them money. If any of the following statements apply to you, Revenue Canada may consider you an employee, regardless of the absence of deductions at source:

you have a contract of service (ie: "I will work for you and do whatever tasks I am assigned") rather than a contract for services (ie: "I will provide certain services to achieve this objective");
you are paid on a regular basis (hourly, weekly, fortnightly, monthly) rather than a bulk fee;
the organization is providing you with the tools to do the job (eg: desk, phone, computer, fax, office space);
the organization is your sole employer;
the fee you charge is not comparable to the going rate for the work you are doing (both higher and lower rates become suspect);
you do not have or require a professional workspace off site (eg: in your home, in a studio).
(Please note that the above are guidelines only and are not carved in stone.)

It is advisable to have your contract(s) examined by a lawyer or an accountant to ensure it meets Revenue Canada criteria for self-employment. Failure to do so could result in reassessment of back taxes plus various penalties for the individual and the organization.

Dual status
(25% of the cultural labour force works both as self-employed and as employee in the same taxation year*)
It is common in the cultural community in Canada for a person to be both an employee with regard to one aspect of his or her income while being self- employed in another area. This most frequently occurs with practising professional visual artists, writers or musicians also employed, say, at a teaching institution. However, an artist may also be employed in a field totally unrelated to his/her artistic endeavour (cab drivers, hospitality workers, to name but a few).

This can be a particularly confusing circumstance. You must remember that expenses which relate to income earned as an employee are not deductible, whereas reasonable expenses relating to your self-employed work are deductible. Any expenses which relate to both aspects of your work (eg: car expenses) should be pro-rated separating personal usage from business.

Use Revenue Canada documents to determine which category applies to you and to assist you in completing your tax return. A list of the available documents is attached.

2. Revenue Canada recognizes that it may take time for a small business to show a profit. During the start up period of such a business, the tax payer can deduct from other income business losses they incur. The cultural sector is distinctive in its nature as it pertains to "reasonable expectation of profit" and Revenue Canada recognizes that as a professional artist you do not perceive yourself as involved in a business activity; however, this may place you at a disadvantage at tax time. A business plan, explaining why you are not showing a profit at this time, and your expectations for how and when this will change in the future, is a useful tool in the development of your artistic endeavour and may prove advantageous in the event of an audit (see Tax Primer 2: Preparing a Business Plan ). The CCA continues to work closely with Revenue Canada regarding the interpretation of this clause.

If you are making a profit in your dealings or if you have a "reasonable expectation of profit", you are treated as being "in business" and the expenses are deductible. But if you are not making a profit and have no real possibility of so doing, you are viewed as merely carrying on a hobby and the taxman will not allow you to claim the deduction.
Taxation and the Arts: A practical guide by Arthur B C Drache QC, published by the CCA in 1987 (out of print)

3. Revenue Canada views the self-employed individual as a small business, so remember:

if possible, get professional assistance especially when starting out or expanding your enterprise. Even if you anticipate operating at a loss for the first few years, you should start off on the right foot. Hiring an accountant to set up your books at the start can save you $$$ later on, and the cost can be deducted as a business expense. If you absolutely cannot afford an accountant at the start, ask your professional association to recommend an appropriate "how to" guide for your discipline, to assist you in doing it yourself;
it is easier to have a system of continuous record keeping than to rely on your memory and scribbled notes a couple of years later; registration for GST/HST is required for self-employed individuals earning in excess of $30,000 per annum. A Quick Method option for remitting the tax collected is available which saves time and eliminates the need to track the GST/HST on your business expenses;
keep personal and business receipts clearly separate; a separate business credit card will help;
if your work expands and turns into a significant business concern, establish a separate business bank account;
it is useful to keep a diary logging what projects you were working on, who was seen, when, where and why, and noting expenses (for which you must also have receipts);
it is your right to organize your affairs in such a way that your tax burden is reduced. However, you must ensure you have back up documents and reasonable explanations for each deduction.

Key among these is the question as to whether losses were generated to a significant degree through the deduction of automobile expenses and expenses related to having an office or studio at home. ... Conservative tax advisers ... suggest that these types of expenses not be claimed where they simply go to create a loss or increase the size of a loss which might otherwise be claimed. ... But there is a strong argument to the effect that if one has a right to make a claim, that claim should be made, and damn the torpedoes! Nobody but you can decide which position to take ...
Ibid

4. Keep full and accurate records of all expenses connected with your work. The following expenses, in particular, should be carefully itemized:

use of a personal vehicle: buy a travel log and enter all gas purchases, repairs, general maintenance, all distances travelled, etc. You must record which journeys were personal and which were business-related. If you have a journey which is dual purpose, estimate how much was business, how much personal, and pro-rate the expenses;
travel: where travel is both business and personal, the same rule applies. If your journey is solely business, every necessary expense incurred on the trip can be claimed;
meals and entertainment: 50% of business related meals and entertainment are deductible if they are incurred to earn income from your self-employment. The amounts must be reasonable and not extravagant;
use of a home office or studio: the space must be exclusively used for your artistic endeavour or the business related to it; clearing the kitchen table after supper to set up your laptop computer does not constitute a home office. You may deduct a portion of your maintenance costs (heating, insurance, electricity, cleaning materials, property taxes) on a pro-rated basis according to the square footage of your office or studio. Mortgage interest payments are also deductible but if you wish to claim Capital Cost Allowance for office space in the home, it is recommended you consult an accountant to fully understand the implications of this. If you rent, you may deduct a portion of your rent.

For a complete listing of what you can claim as business expenses, refer to the Revenue Canada publications listed on the attached sheet.

Expenses listed must be incurred for the purpose of earning self- employment income and must be reasonable to be deductible.
Tax Time Primer by Warren McCann MBA CA, Words & Music/March 1997

5. Assessment does not equal harassment. Revenue Canada regularly and randomly selects tax returns for verification, to ensure that the system is working properly. This may involve simple requests for receipts or explanations or may be a more in depth review of the return. If you do actually get audited, it is recommended that you cooperate by organizing your receipts, your agenda, and all other relevant material. If an accountant or other professional has assisted you, you may wish to have them present.

All taxpayers in a self-assessing system must be prepared to justify both the purpose and reasonableness of any business deductions that they claim. (Our emphasis)
Report of the Sub-Committee on the Taxation of Visual and Performing Artists and Writers, Standing Committee on Communications and Culture, June 1984

6. Make use of material provided free of charge by Revenue Canada (see list attached); remember the Interpretation Bulletins are guidelines only , not law.

... my ultimate conclusion is that what is required is legislation which recognizes artists as a separate group for tax purposes.
Taxation and the Arts: A practical guide by Arthur B C Drache QC, published by the CCA in 1987 (out of print)

Useful documents available free of charge from Revenue Canada

Tax guides

General Income Tax Guide
Business and Professional Income
Employment Expenses

Tax brochures

Paying Your Income Tax by Instalments
Tax Information for Professional Artists (This publication is no longer available but the CCA can provide copies. Some of the information may be out of date.)

Interpretation bulletins

IT-504R2, Visual Artists and Writers
IT-525R, Performing Artists
IT-75R3, Scholarships, Fellowships, Bursaries, Prizes, and Research Grants
IT-110R2, Deductible Gifts and Official Donation Receipts
IT-120R4, Principal Residence
IT-257R, Canada Council Grants
IT-273R, Government Assistance - General Comments
IT-357R2, Expenses of Training
IT-407R3, Disposition after 1987 of Canadian Cultural Property
IT-490, Barter Transactions
IT-514, Work Space in Home Expenses
IT-521, Motor Vehicle Expenses Claimed by Self-Employed Individuals
IT-522, Vehicle and Other Travelling Expenses - Employees

Information circulars

C 71-14R3, The Tax Audit
C 75-7R3, Reassessment of a Return of Income
C 78-10R2, Books and Records Retention/Destruction

If you are resident in Quebec, the following provincial tax guides might be useful:

MP.128-12, Treatment of expenses for a self-employed performer
MP.80-5/R2, Reasonable expectation of profit
MP.80-3/R2, Determining whether an artist is an employee or self-employed

Useful information is also available at Revenue Canada's web site.

* figures provided by the Cultural Human Resources Council