Many Canadian small business owners spend a fair bit of time in tax season combing over their tax returns looking for potential income tax deductions. But strangely, many small business owners neglect the best income tax deduction - the Registered Retirement Savings Plan (RRSP).
If you run a sole proprietorship or partnership in Canada, your business income is all or part of your personal income, and you file your income taxes using the T1 form.
The Registered Retirement Savings Plan or RRSP is the best income tax deduction for unincorporated businesses because your RRSP contribution is deducted directly from your income, and therefore has the potential to lower your tax rate. For the 2011 tax year, the maximum allowable RRSP contribution is The RRSP dollar limit for 2012 is $22,970. This amount will increase to $23,820 in 2013.
However,you may be able to contribute more than $22,970 for the 2012 tax year; if you did not use all of your RRSP deduction limit for that tax year, you can carry forward the unused amount to 2012.
The catch is that the maximum RRSP contribution that you personally can make in any given year is tied to your earned income; you may contribute up to 18 percent of your earned income in any given tax year (or the maximum annual RRSP contribution limit for that tax year, whichever is lower).
So to make an RRSP contribution of $22,970 for the tax year 2012, you would have had to earned income of at least $124,722 in that year. You can find out what your personal maximum RRSP contribution is by calling the Canada Revenue Agency (CRA) TIPS service at 1-800-267-6999, by going directly to your CRA account (their My Account service) or by looking at last year's Notice of Assessment statement the CRA sent you.
If you have sufficient earned income to allow you to make an RRSP contribution, you definitely should. Besides serving as an income tax deduction now, giving you an immediate tax benefit, any income your RRSP investment earns will also be tax exempt as long as the funds remain in the RRSP. The deadline for RRSP contributions for the 2012 tax year is March 1, 2013.
If you don't have the funds to maximize your RRSP contribution and take full advantage of this income tax deduction, you should consider borrowing. While the interest expense is not deductible, the benefits of maximizing your RRSP income tax deduction may outweigh the costs involved.
Judging by the yearly February and March rush, another thing that many people don't realize about this valuable income tax deduction is that you don't have to wait until "RRSP season" to make an RRSP contribution. The earlier in the year you make your RRSP contribution for any given year, the better off you'll be. Compound interest means that you'll end up with a lot more money in your RRSP if you contribute early.
For more information on Registered Retirement Savings Plans, you may wish to visit the RRSP section of the Canada Revenue Agency website - or talk to your financial advisor or accountant.