There’s an accountant I work with who often says
“it’s not about how much you make that matters, but how much you keep”.
When I was younger I didn’t really understand what this meant. I mean, yeah, it sounds intelligent, but I figured “keeping” money was just another way of saying “spend less”.
However, after the first year I started working as a self-employed freelance digital marketer and was doing my personal tax returns, I realized that this advice was really about finding ways to reduce your taxable income.
Of course I’m talking about reducing your taxes by law abiding means and not being a crook.
The last job I had before going off on my own was working for a telecom company making a $50,000 salary.
So, when I did go off on my own, my goal was to match that and make $50,000 in the first year.
In my mind, I figured if I could make $50,000 on my own, essentially unemployed (cause you know, I wasn’t on anybody’s payroll), that it would be a great life experience. A fate far better than still sitting inside a cubicle office any longer.
And I thought even in a worse case scenario where somehow I totally screw up and lose all my money, I’d still have the experience of knowing how to make $50,000 all on my own. And nobody could ever take that experience away from me. Even if I lost it all, I’d know how to make it back because I have the experience of no longer relying solely on employment income.
So there I went off on my merry way, making strategic professional relationships, finding my own clients, doing work I’m proud of and eventually invoicing those clients and getting paid.
Inevitably I climbed past the $30,000 mark, registered my business name with the CRA (Canada Revenue Agency) and started adding HST tax to my invoices. I kept going and managed to reach that goal of $50,000 by year’s end.
Now here’s the cool part with the business breakthrough…
Everyone knows that whatever your annual salary is, you always take home less because of taxes and deductions on each of your pay cheques.
Here’s a snapshot look at what you lose if you make $50,000 a year working in the province of Ontario.
You lose about $11,500, which is almost 25% of your earnings. It totally sucks, I know. But that’s the life of an employee.
However, when you’re self-employed things work a bit differently. You see, you can reduce your taxable income amount by claiming business expenses.
This is how it works, when you charge HST tax on your invoices you’re suppose to keep that money to the side and pay it to the CRA (the government). You can choose to make these HST payments annually, quarterly, monthly and I think you can even choose to pay bi-weekly. In my first year I paid it all annually at the end. Since then I’ve been doing it quarterly.
Here’s the cool thing with being self-employed, you can reduce the amount of HST tax you owe by offsetting it from the HST tax you pay on your business expenses.
So anytime you buy office supplies, computer upgrades or software, automobile expenses and gas, your phone and internet bill etc. all these things can be claimed as a business expense.
To figure out what you owe the government in taxes, you take all the HST you’ve collected from your invoices (in other words your income) and subtract it from all the HST you spent on your business expenses.
Chances are very likely that you’ll owe less taxes than someone who works as an employee.
So, what did I owe the government in taxes for that first year I was self-employed? Let me show you!
That’s a photo of the letter my accountant wrote for me on the front page summary report of my personal income tax return for the 2016 fiscal year. I legally only owed the government $3,564.43 in taxes.
If you ask me, that’s a much sweeter deal than being an employee.
However, there are 2 caveats with this.
- The government forces everyone to make a CPP (Canada Pension Plan) contribution of 10% of your income. When you’re an employee you pay 5% and your employer matches the other 5%. When you’re self-employed, in the eyes of the CRA, you are both employee and employer of your own business, so they make you pay the full 10% on your own. But you don’t have to pay EI (employment insurance) deductions when you’re self-employed.
- Because it was the first time I had to manage all my income and expenses on my own, my accountant told me I was lousy at bookkeeping and I should have been better at keeping all my receipts. My accountant told me I could have paid even less tax if I was better at keeping track of all my expenses. (Fuck me, I guess).
So you better believe I went out and bought Freshbooks Cloud Accounting to help me with that! And guess what, my accounting software is a business expense so now I can deduct that too!
When it comes down to it, when you’re an employee making $50,000, you’ll pay roughly $11,583.60 in taxes and deductions. Compare that to the $8,564.43 (combining the HST I owed plus 10% CPP) I had to pay as a self-employed individual who made $50,000.
You can clearly see that I walked away at the end of the year with more money being self-employed. And that was my biggest business breakthrough in the first year. Now, it’s only a difference of about $3,000 and you might be thinking that’s not much. But think about all the cool stuff I can do with that extra $3,000. I can reinvest it back into my business, or put it towards retirement savings, hell, an extra $3,000 is even a good chunk of money for a vacation!
Now that I’ve learned this, I don’t think I’d go back to working for someone else as an employee. I’ve also been reading and educating myself more about small business taxation and how money works. It turns out that the small business tax rate in Canada is 15%. Compare that to the 100% tax you have to pay on every dollar you earn as an employee.
Although I haven’t incorporated my business yet to get that small business tax rate, it is my next goal to achieve. As well as continuing to increase my annual income well pass $50,000.
It does seem however, that the more I learn, the more I realize being an employee is the worst career choice you can make from a financial stand point.
Now, being an employee isn’t terrible. I started out as an employee, as do most other people. It’s a great way to get into the labour market and to get on-the-job experience in your field. But remaining an employee for the entirety of your career, well, that’s probably not the best choice you could be making for yourself (or your family). Although, every individual is different and I don’t want to come across as someone with a self-employed bias…
…but if you were to ask me what’s the moral of this story?
Simple: if you can be self-employed, you should!