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Running a sole proprietorship outside Canada

Expert: Michael Fromstein

Bilal asked:

I am running a sole proprietor business outside of Canada? How can I report income or loss from this business to the CRA using a T1? What kind of evidence can I use to verify this income?

Michael Fromstein answered:

Canadian residents are responsible for reporting their income from anywhere in the world. Some investment foreign income is reported with special disclosure that it is foreign, interest and dividends for example. Foreign business income is reported on the same form as Canadian business income.

You are responsible for verifying the foreign income (and foreign expenses) in the same way as Canadian source income and expenses. You should have copy of all invoices issued and receipts to support all expenses.

Typically, CRA will not question your income (unless they think there is additional income that you have not reported). They will want to see bank statements the same as they would for Canadian source business.

In some jurisdictions, that is problematic, in some places you have to pay wages in cash, some expenses may not generate receipts. To the extent that you pay cash, the recipient must provide enough documentation on a signed receipt that CRA can trace that person through local tax authority. I have seen clients denied payroll expenses because staff have rotated by the time CRA requests proof. Any time you have an expense with no formal invoice from a supplier, you are at significant risk of not being allowed to deduct that expense if CRA reviews your file.

The fact that documents are in the language of the jurisdiction in which you are carrying on business should not be a problem. Not having documents will be a problem.

Then, after you have reported all of that income, you determine the Canadian income taxes payable on that income. You can offset the amount payable to CRA by amounts of income tax paid in the foreign country in which you earned income. You will need tax returns and proof of payment of taxes to obtain that reduction in taxes payable. If you are not entitled to relief for foreign taxes paid, that in itself could raise interest, because legitimate income earned in virtually all countries, triggers reporting obligations.

About the author

Michael Fromstein is a tax specialist with Integrated Professional Specialist Services.

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