CRA Write-Offs: What's Personal & What's Business

Is your chewing gum a business expense? Probably not. Learn the fine line between personal and business write-offs.

Article Written for TaxWrx by Chartered Professional Accountant Jillian Battaglio.

I’ll admit the difference between a personal expense and a business write-off can be a bit confusing.

My small business clients often mention ‘gray areas’ while the CRA only sees black and white.

In this article, we dive into the differences between personal and business transactions so are protected in the event of an audit.

Tip #1 - Be Proactive Not Reactive

So why should you care about personal versus business transactions? Can’t you just submit everything to CRA and they can sort it out?

To answer this question, let’s talk about a few CRA audit approaches.

One technique the CRA uses to determine WHO to audit is data analytics.

This means the CRA will compare your tax return information to many other taxpayers. If your data has unusual characteristics compared to others in your same industry, then you are more likely to be audited.

And this is not a fun experience.

You may end up paying significant accounting fees to have a good audit outcome and it takes considerable time to prepare the information being requested by the CRA.

Being audited is a very stressful process and you may end up with a nasty tax bill if your documentation isn’t lining up with CRA standards.

Are you still not convinced you should sort your business and personal expenses?

Well, consider CRA’s tendency to enact multiple audits and do deeper dives if they get paid.

When CRA draws blood in one tax year, you can bet they’ll be returning for more in future years.

One example of this is a client we’ll call Josephine.

Most of the time Josephine did not keep receipts and personal expenses were mixed in with business spending. Professional advice was often ignored because she was ‘too busy’ and taxes ‘weren’t her thing’.

Josephine’s audit nightmare began when CRA inquired about a few expenses.

Josephine couldn’t provide all the receipts and it became clear to the CRA that some personal items had been expensed, like her personal vacations. These write-offs were quickly denied, resulting in a nasty tax bill.

Drawing blood from their initial audit, the CRA went in for the kill.

Audits popped up in the next two years with the CRA digging deeper and deeper every time.

Josephine’s lassie-fare attitude to the CRA cost her thousands of dollars and taught her an unpleasant lesson about sorting her expenses.

Boastful acquaintances may be happy sharing all the personal items they are writing off. They’ll gleefully tell you about how they are getting one over on the taxman. And yes, they may do this for a year or two, but when the CRA comes knocking, things can go downhill fast.

Instead, be proactive and avoid an audit by sorting your business and personal transactions.

Avoiding CRA audits is a great way to improve your financial security as a small business owner.

"Avoiding CRA audits is a great way to improve your financial security as a small business owner." – Jillian Battaglio, CPA, CA

Tip #2 - Know How To Categorize Your Write-Offs

So now that we know why it’s best to be proactive, what is the difference between a business write-off and a personal expense?

Aren’t some of these a bit of both? Where is the line?

Well, the CRA defines a business expense as: “a cost you incur for the sole purpose of earning business income”.

But we know in practice they allow expenses that have both a personal and business component like cell phone bills and home office expenses.

Follow-up guidance from the CRA generally refers to the word “reasonable” which isn’t super helpful.

To provide clarity, I’ll share a few definitions and examples I’ve put together from my experiences helping clients navigate CRA audits.

But before we dive in, let’s go over two baselines:

• Baseline Number 1: There must be an expectation that the expense you are incurring will help your business grow.

• Baseline Number 2: The cost of being human, like clothing, is generally considered a personal expense by the CRA.

To mix these two baseline concepts together: a business expense usually occurs if you change your behaviour to benefit your business.

Let’s go through two examples to see what this looks like.

David owns a construction company and buys a coffee and a bagel every morning.

This would be considered a personal expense because David is not travelling out of town or meeting a client.

There is no direct benefit to David’s business other than him showing up on the job site with a full tummy. Having a full tummy is a regular part of being human and David has not changed his behaviour to benefit his business.

Everyday meals are not something the CRA will allow to be deducted and you shouldn’t claim them as a business expense.

Another example is a client we’ll call Jessica a financial advisor. Jessica drives to her office every day and must pay for parking.

The parking fee would be considered a personal expense because driving to the same work location is classified as a “personal commute” by the CRA.

No change in daily behaviours makes this a personal expense.

Driving to work is a very common requirement for most Canadians.

Because there is no special or unique business-driven action Jessica is taking, the parking fee cannot be written off in Jessica’s business.

Now if Jessica changes her daily behaviour to benefit her business, like travelling to an elderly client’s home for a meeting, then a parking fee at her client’s home could be considered a business expense.

This is because travelling to a client’s home is a change in behaviour that is directly linked to a potential future sale.

"A business expense usually occurs if you change your behaviour to benefit your business." – Jillian Battaglio, CPA, CA

It is the change in behaviour combined with the intention of producing business income that makes expenses a business write-off.

Tip #3 - Keep Your Documentation

So how does CRA know the difference between a personal and business transaction?

Well, it’s all about documentation.

Mileage logbooks, detailed receipts, bank statements and credit card statements are all items that CRA may ask for in the event of an audit.

These items help prove the business use of an expense.

So, the best thing you can do to protect your business from unexpected taxes is to keep your documentation.

Now I have a few quick tips to help you do this effectively:

1. For mileage logbooks – please check out our motor vehicle series video series available on our website. This helps ensure your vehicle is reducing your taxes rather than increasing them.

2. Make sure to keep detailed receipts. You want a “till” receipt or a copy that describes what you purchased. A credit card slip from your barista doesn’t cut it with the CRA.

3. Items with a mix of business and personal use – like a cell phone – can be claimed on a percentage basis – say 60% business, BUT you need to consider actual usage. CRA won’t allow the entire receipt to be claimed and will deny the write-off if you get too aggressive.

4. As a final tip – If you purchase personal items for your business, say a candle as a thank you gift for your real estate client, make sure to write on the back of the receipt why the expense is a business write-off. Items that could be perceived as a personal expense and are easy targets in an audit.

All right, that is all I have on personal versus business expenses for today.

I hope you found this article helpful when deciding what expenses, you can write off.

Remember, it’s the change in behaviour to benefit your business that counts.

If this topic has interested you, be sure to check out our other blog articles and consider subscribing to one of our membership plans so you can be a well-informed business owner.

Article Written for TaxWrx by Chartered Professional Accountant Jillian Battaglio.