Start a business, Do your taxes, Save money

What is a write-off really worth?

“I’ll pick up the lunch tab. My business will pay for it–it’s a write off!”

Ahh…the magical “write-off”. People love to write off dinners, gas, and bottles of wine for their clients. Access to the prestigious “Write-off Club” is often seen as one of the great benefits of going into business for yourself.

But it is not a club you want to have too many drinks in.

Let’s look at Bob’s massage business again. He is doing well and expects to have net income of about $30,000 this year in his massage business. That puts him in the lowest tax bracket, which, depending on the province, means he would pay about 25% (15% Federal, 10% Provincial in Alberta) of any money he earns after all his personal tax credits are used up. Basically, an individual can make about $10,000 without having to pay income tax. Yeah, yeah, this number changes all the time depending on tax rates and available personal tax credits, yada, yada, but it’s close enough to illustrate my point.

So by the time Bob has used up his personal credits, he is staring at a taxable income of about $20,000. His tax bill would then be $5,000 ($20,000 X 25%).

If Bob decides to spend $100 on a new set of headphones “for his clients” (wink, wink) because he can write them off, how much are those headphones actually going to cost after his tax savings? Well, after deducting the cost of the headphones from his income, he is left with a taxable income of $19,900. Taxes owing would be $4,975.

The Reality of a Write-off

Bob only saved $25. He spent $100 to get back $25. That is the reality of a write-off. The government of Canada chipped in only $25 towards a $100 set of headphones that Bob probably didn’t really need.

It gets worse.

What if Bob bought his brother dinner for $100 because he can “write it off”. That would be a “Meals & Entertainment Expense”, of which CRA only allows businesses to deduct 50%. So in this case Bob would save $100 X 50% X25%…which is $12.50. Bob’s $100 “write-off” reaches into his own pocket and costs him $87.50. Not such a deal.

Now, if only he could get his brother to pay for half the meal in cash, and then write off the bill…

September 30, 2011 - Posted by | Running Your Business | , ,

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