With the end of the year approaching, the time is coming to plan for your income tax instalments. This article concentrates on tax instalments for farms operating as sole proprietorships.
Instalments are a common hit to a farm’s cash flows, and these payments can sometimes come as a surprise. The government requires instalments if your tax balance owing, not counting any instalments made, exceeded $3,000 in either 2016 or 2017 and you expect to have a similar excess in 2018.
Instalments are due Dec. 31, 2018, when farming is your chief source of personal income. Failure to pay instalments will incur interest from the time the instalments are due. If you have forgotten to make an instalment payment when it is due, you can correct the error by making an early payment before taxes become due.
Tax planning for instalments
In times like these, every dollar counts, especially where taxes are concerned. When paying instalments, the main concern, particularly for farms, is to preserve cash flow and put this cash to productive use.
If you underpay your 2018 tax instalment, you may be required to pay a significant lump-sum tax payment by April 30, 2019. This could cause difficulties because a large payment at seeding time likely does not coincide with a cash rich time in the farming cycle. As mentioned, you could also be subject to substantial interest and penalties due to underpayments.
However, it is important to note that as long as you pay the amounts on the instalment reminders within the appropriate time allotment, no interest or penalties will be charged by the government, even if your tax liability for the year was underpaid.
If you overpay your tax liability (your instalments were more than your 2018 liability), the government will refund your overpayment when you file your 2018 tax return. Unfortunately, you will receive no interest for this overpayment (unless they are late in refunding your money) and you will have lost the use of this cash for your operations and investments for the year.
It is the most advantageous to pay the lowest instalments to the government that do not result in interest or penalties, keeping in mind there could still be a substantial lump-sum payment at April 30, 2019, depending on your 2018 income.
How do you lower your tax instalment?
There are three options for calculating your 2018 instalments. The first is to use the same method used by the government in issuing its instalment reminders. The second method is to take your 2017 tax liability after all credits and withholdings (except instalments), and pay this amount by Dec. 31, 2018. The third method is to estimate your total federal and provincial tax payable, plus Canada Pension Plan payments and minus amounts otherwise remitted during the year and pay this amount.
A drawback to estimating your instalment payment is that if it turns out your actual tax is higher than the estimate, you may be liable for interest and penalties.
If you begin making instalment payments under any particular option above and discover in the course of the year that this will result in an overpayment, you can shift to another option and make reduced payments for the remainder of the year, taking account for earlier overpayments. This could be a way to protect your cash flow in times of need.
You should discuss with a professional the best instalment method suited for your operation.
Colin Miller is a chartered accountant and partner with KPMG’s tax practice in Lethbridge. Contact: firstname.lastname@example.org.