New Grad Guide to Physiotherapy : Managing Your Finances
Managing Your Finances
As an independent contractor, you are considered a business. If your business is not incorporated, then your business identity and personal identity are considered the same according to the government. This means you will file your income taxes as a sole proprietorship. You don’t have to register a business name or file any forms to be considered a sole proprietorship because you are doing business in your own name. Once you start earning income by providing physiotherapy services as an independent contractor, you are automatically considered a sole proprietorship. As mentioned in a previous post, this has both benefits and downfalls. As an independent contractor, income taxes and CPP are not taken off your paycheque like it is for an employee so you will need to plan your finances accordingly.
The benefits of being an independent contractor is that you are considered self-employed and can deduct business expenses. This means that the business expenses you claim can be deducted off your reported earnings (income) so that your overall income tax bill will be reduced.
On top of this income tax, you are required to pay into the Canadian Pension Plan (CPP). As a self-employed contractor, you are responsible for contributing to both the employee and employer portion of the CPP (all the money goes to you when you retire). If you were hired as an employee, your company would pay half of these contributions. Your total tax bill at the end of the year will include both your income tax and CPP contributions.
Ex: You make $50,000 as a new PT grad. Your income tax owing at the end of the year will be roughly $8,501 (as of 2016). Your CPP owed is $4,950. Your take home pay would be $36,479. However, let’s say you spent $10,000 on business expenses and want to deduct this off your taxes. Therefore you will only be taxed as if you made $40,000. The tax bill would then be $5,823, with a CPP premium of $3960.
Use the income tax calculator to play around with the numbers.
So what can you claim as a business expense? The CPA has a Business and Professional Income guide to help you determine business expenses.
Generally, you will want to keep records and save receipts for:
- Gas and transportation (including public transport)
- Motor vehicle expenses (you will need to record the amount of kilometers used for work compared with personal use.)
- Licensing fees and membership fees (College registration, professional insurance, etc).
- Accounting and legal services
- Professional conferences and courses
- Meals and entertainment (related to business activities or professional meetings)
- There is also a section called Capital Cost Allowance (CCA), which is a section specifically used for deducting depreciable property such as cellphones, computers, and other equipment.
Luckily, on Line 323 under the Tuition, Education and Textbook Amounts, licensing exam fees can be entered to receive a tax credit. Therefore, if you will be practicing in Canada, the Physiotherapy Competency Examination (PCE) fees are eligible for a tax credit. Tuition should also be entered in this section so you can receive a tuition tax credit, which helps to reduce the amount of tax you may owe and is especially important after your first full year as a physiotherapist. The tuition tax credit is 15% (federal tax rate) of the total cost of tuition and is nonrefundable.
There is some confusion between independent contractors and employees about what can be claimed on your income tax. For physiotherapy employees, licensing exam fees (written and practical component of the PCE fees) can be claimed under the Tuition, Education and Textbook Amounts. Employees can also claim professional practice insurance, on Line 212 – Annual union, professional, or like dues. It may be worthwhile to double check if CPA membership and division fees can be claimed, because these fees are considered optional and some physiotherapists have had trouble in the past when claiming these dues. Independent contractors can claim these amounts as well as the previously listed business expenses.
The first year out of school and starting work, you will be making an inconsistent amount of money as an independent contractor. However, it is important to keep track of your finances during the first year to know how much money to put aside for income tax. Your business income is based on a fiscal year (12-month period). For a sole-proprietorship, that is a December 31st year-end. Depending on your tax bracket (based on how much money you earned) you will owe a certain percentage to the government as income tax the following year by April 30th. As an independent contractor, this is NOT taken off of your paycheck so it is your responsibility to set aside this money.
In the second year, you will likely receive instalment notices from the government on a quarterly basis stating how much you owe in taxes for the current year. You will receive this notice if you earn, or will earn, more than $3,000 and have earned that amount or greater in your previous (first) year. How do they calculate how much you owe at each instalment? It is based on your previous year’s earnings, however you do not have to pay this estimated amount. The good news is that these instalments include both income tax and CPP contributions you must pay to the government. You will have three options for paying these instalments:
- No calculation option (if you expect your income to remain the same as the previous 2 years)
- Prior-year option (same as above, but only looks at last year’s income)
- Current year option (based on estimated income for the current year)
Option 3 is useful for new grads since you will likely earn more in your second year as you build a caseload and retain clients. Either way, the instalment notice will have instructions on how to pay.
Ex: If you made less during your first year, then you will likely owe more in taxes at the end of the second year. If you earned more money in your first year compared to your second year (or you claim more business expenses which put you in a lower tax bracket), and you payed instalments based on the first year, then you will receive a tax refund at the end of the year.
If you fail to pay enough at year-end, through your overall tax instalments, you will owe instalment interest on the amount your instalments fell short. However, you do not want to over-contribute to your instalments and rely on a tax refund because that money can be used towards your business or personal investments.
Filing your taxes
As a sole proprietorship (ie: an independent contractor), you fill out the same T1 tax form used for personal taxes. The only difference is that you will be filling in more sections – specifically the T2125 form.
This includes filling out the professional income rather than the business income part of the form because as physical therapists we have a governing body and the money we make is considered professional income.
The T2125 form is also where you list your income and business expenses. The final net profit (or loss) is what is used to determine your taxable income for that fiscal year.
You can easily file your taxes online using software such as SimpleTax, or hire an accountant if you are not comfortable going solo. For more information on filing taxes as a physiotherapist, check out the tax advice blog post on healthSwapp.
Budgeting and Investing
Now that you know you need to set aside money for taxes, there will be a need to create a budget of common professional expenses as well as your personal financial goals. Here are the common fees (as of 2016) for the physiotherapy profession that are paid on a yearly basis:
- Professional Liability Insurance: $196 ($98 for new grads)
- CPA membership fees: $531.03 ($259.52 for new grads)
- Division fees (varies depending on which you select)
- Certificate of Registration Authorizing Independent Practice: $595 (this is prorated for new grads after passing the national exam, up to a max of $121.78 for the previous year, as the College registration period starts on March 31st each year)
The division fees range from $30 up to $75 in Ontario.
The total professional fees that should be budgeted annually equal $1322.03. As mentioned before, these professional fees can be deducted off your taxes. For a new grad, this total will be about $479.30 until March 31st of the following year from your graduation, where you would need to renew your independent practice certificate at a cost of $531.03. The total for your first year out of school would be close to $1010.33.
On top of these yearly fees, you will want to budget for continuing education courses. Remember that these fees can be deducted off your taxes. As mentioned above, use the Business and Professional Income guide to determine how to fill out your tax form as a sole proprietor. If all of this tax stuff is too complicated and stressful, hiring an accountant is your best option.
Here are some quick tips for personal savings:
- Pay off high interest loans first (credit cards, line of credit/student loans, etc)
- Max out TFSA and RRSPs (these are considered registered accounts)
- Open an account through Questrade, Tangerine or TD E-series. These tend to have lower management expense ratio (MER) fees, which saves you money.
- Passive investing within these accounts is best for long-term growth (using index funds)
- Have a 3-6 month emergency fund (preferably liquid in a checking or high interest savings account, although a TFSA can be used as an emergency fund)
- Pay yourself first!!
Here are some recommended books to help with your personal finances (*affiliate links for each image):
These 3 books are more than enough to help you set and accomplish your financial goals (and they’re all written by Canadians!).
A word of caution regarding financial advisors. Unfortunately, many advisors work on a commission basis. This means they get a commission from the mutual funds and services they recommend to you. This is a huge conflict of interest as the management expense ratios (MER) fees are generally higher with these funds. This means 2.5-3% of the money you invest and earn goes to pay for their services. If you plug these numbers into a compound interest calculator, you can see how these MER fees can add up to thousands of dollars over the long term.
Comparing each graph shows the power of compound interest. Notice that 2.5-3% per year decreases the total amount of interest earned by more than $57,000 over a 30 year period with a $1200/year investment. When analyzing index fund performance, historical data from the S&P 500 indicates a 9% ROI (return on investment) over a few decades (using the geometric average, which is more realistic). After taking into account inflation rates, roughly 2% annually, the ROI you can expect to earn from index funds is 7%. This ROI is based on long-term investing over decades.
In general, MER fees on index funds are much lower (~0.5-1.5%), saving you lots of money if you choose to invest on your own. But if you decide to hire a financial advisor, a fee-based one is recommended. These advisors get paid independent of the financial products they recommend to you.
At the end of the day, if you are not comfortable or willing to learn how to invest on your own, it is best to hire a professional. The fee they charge may be worth the amount of time and effort you save.
Because you do not have the benefits package that an employee will have, it is important to plan for any issues that may arise either personally or professionally. Consider different types of insurance – life insurance, disability insurance, etc. You may feel more comfortable knowing you are protected should something go wrong that would prevent you from working. It is important to seek out a knowledgeable insurance company to help you decide.
Don’t forget to use your professional membership to the fullest. The Canadian Physiotherapy Association (CPA) has many special discounts on things such as insurance, credit, and gym memberships.