How to Optimize your Tax in Challenging Times
Canada has been unofficially in various states of recession since at least the fall of 2023, but with the US tariff war upon us (and then “off again”), it’s a great time to take stock of your tax situation.
Whether it’s a recession or just uncertainty caused by tariffs or other geo-political disruptions, it’s a good time to now keep a close eye on your tax situation and risk exposures, whether it be income tax matters, sales and other indirect taxes, customs duties, tariffs and overall supply chain optimization.
How can I reduce my income tax exposure?
During a recession, it may be beneficial to defer income to future years when tax rates might be lower or when you might be in a lower tax bracket. Conversely, accelerating deductions into the current year can reduce taxable income. This strategy requires careful planning and a thorough understanding of the timing of income and expenses.
Businesses and individuals may incur losses during a recession and Canada’s income tax laws allow for the carry-back of non-capital losses for three years and a carry-forward of 20 years. This means that losses incurred in the current year can be applied to past or future years’ income, potentially resulting in tax refunds or reduced future tax liabilities.
Recessionary periods often lead to liquidity issues, prompting debt restructuring. While outright forgiveness of debt can lead to taxable income under the debt forgiveness rules, restructuring options such as refinancing, deferral, or conversion to equity can mitigate adverse tax consequences. For instance, converting debt to equity can be done on a tax-deferred basis, provided the fair market value of the shares equals the value of the exchanged debt.
Capital losses can be used to offset capital gains, and they can be carried back three years or carried forward indefinitely. Triggering capital losses during a recession can provide immediate tax relief if you have realized capital gains in the past three years.
Recessionary times may present opportunities for corporate reorganizations. Reduced asset values can make tax-deferred reorganizations more attractive, as the tax liability on the reorganization will be lower. This can include amalgamations, asset transfers, or other restructuring activities that can be done on a tax-deferred basis under Canada’s income tax rules.
Ensure that you take advantage of every available tax credit and deduction. For individuals, this includes optimizing medical expenses, charitable and political donation credits, amongst others. For businesses, consider potentially significant tax credits (generally refundable) for research and development spending, investments in clean energy, and other sector-specific incentives.
Recessionary periods are also a great time to review and adjust your tax strategies. This includes reassessing your investment portfolio, retirement plans, and estate planning strategies to ensure they are aligned with current economic conditions and tax laws.
How can I reduce my indirect (sales) tax exposure?
We commonly help entrepreneurs reduce their indirect tax exposure in a few key ways:
- There are so many gems to be found right in your accounting data where sales tax refunds have not been claimed or exemptions taken advantage of. Whether it is PST or GST/HST, we can typically help you find both historical and future savings that can generate cashflow (some big, some small) opportunities. During the first months of the COVID pandemic, many businesses were scrambling for cash, and we helped them find it, in some cases, helping to make payroll.
- There are often sales tax refunds associated with bad debts. As much as the pre-tax amount can be an income tax deduction, many businesses overlook the sales taxes included in the amount. Claiming a refund or credit with the sales tax authority (e.g., CRA) is a cash tax savings that goes straight to increased cashflow.
- Whether you’re on a monthly or quarterly sales tax reporting cycle, invoicing your customers early in the reporting period can help ensure that you’ll be paid for the invoice and the sales taxes, before they must be reported and remitted. For instance, if you’re on monthly filing for GST/HST purposes, try to invoice near the start of the month, whereby you’ll have close to 60 days before reporting and remitting the GST/HST, since it’s due at the end of the month, following the “invoice-month”.
- If you’re in a CRA-targeted sector such as construction, homebuilding, renovations, etc., consider obtaining “audit insurance”, which can help minimize the professional fees for a CPA firm to manage a CRA audit on your behalf. Better yet, speak to an experienced sales tax professional, to see where your risks might lie and what other savings opportunities they can identify for you, to generate historical and future cash-tax savings and cashflow from refunds.
How can I reduce exposure to customs duties and tarrifs?
Firstly, you may be able to utilize certain Canada Customs programs that allow you to defer customs duties, tariffs, counter-tariffs (e.g., “surtaxes”) and GST payments at time of import, which can significantly improve your company’s cash flow. If your business involves importing goods for ultimate export or further manufacturing or processing goods for subsequent export, there are specific programs designed to help you avoid paying upfront duties and taxes.
If your operation requires part of the manufacturing process (e.g., car parts, certain jewelry, etc.) to be undertaken abroad, there are Canada Customs programs available to avoid paying duties, surtaxes and GST on the full value of the goods when they return to Canada. Instead, you only pay duties and GST on the increased processing value of the production, which can significantly reduce manufacturing costs and keep money in your pocket.
Even if you’re not eligible for any of Canada’s duty and GST deferral programs, you may still be eligible to recover duties on the same goods that were imported and subsequently exported. If duties were applied at time of import and the goods are subsequently re-exported in the same condition, you can claim a refund (e.g., “drawbacks”) for those duties or surtaxes. Additionally, if your imported materials are used in a manufacturing process, consider your eligibility for duty recovery.
Secondly, customs duties are directly linked to the tariff classification of the goods declared at time of import. By reviewing the tariff classification of your imported goods, you can ensure the correct duty rate is applied, potentially avoiding or reducing duties. Additionally, conducting a tariff review can minimize the risk of potential liabilities and prevent unexpected duty reassessments due to incorrect tariff classification, which can be retroactive for up to four years.
Third, the declared value at the time of import has become a significant topic, particularly for goods subject to duty. Consider whether you are including valid deductions to the declared value, to lower your duty liability. By taking advantage of these deductions, can help save your business significant amounts of duty and GST owed to Canada Customs on imported goods.
Lastly, are you leveraging Canada’s various trade agreements with other countries? Diversifying your suppliers and reducing reliance on a single country can help mitigate the impact of country-specific tariffs. By sourcing goods and materials from trade-friendly countries, you can take advantage of reduced or eliminated tariffs under these trade agreements.
Do you want help reducing your tax exposure in Challenging Times?
Recessionary times require careful tax planning and strategic decision-making. By understanding and leveraging the available tax rules (including sales taxes and customs & trade), individuals and businesses can mitigate financial stress and optimize their tax and trade positions. By keeping these considerations in mind, you can better navigate the financial challenges of a recession and emerge in a stronger tax and cashflow position.
At Achen Henderson CPAs, we specialize in helping businesses manage their income taxes, indirect taxes as well as customs and trade issues to stay compliant, while maximizing savings opportunities. Let us help you manage these challenges effectively.