I think most of you would agree with the statement that small business is the backbone of the Canadian economy. The small business person tries to avoid as much account payables as possible, including income tax. He/she can deduct depreciation on various possessions, if they were used in the business. The interpretation of this particular write-off is the subject of our article today.

John and Harriet own a small equipment leasing business. All of their equipment is owned, not leased. They in turn rent these units out on a daily, weekly or monthly basis. At income tax time, they can legally depreciate the asset (equipment) by a certain percentage. Translation....they make money on the asset but don't have to pay tax on a portion of the money received. The bottom line shows that their income is very low due to this depreciable item. They really like that part!

They present themselves to their branch of a national banking institution. They want to refinance their home and a rental property next door. Their lending officer takes the application, and asks for verification of income by way of Revenue Canada's Assessment notices. This Assessment Notice is the piece of paper returned to you each year when you file your income tax return. In essence it shows your taxable income. For most salaried employees, the bank will take the gross income (before income tax is removed) as the qualifying income. If you work for yourselves, as in our case, the net (after tax) income is taken. So our folks don't qualify to get this mortgage because the income is too low. They try to explain the situation, to no avail. The rental property paid for itself, with a slight positive cashflow, and their present home mortgage was at a higher rate than what they could get now, yet they never missed a payment. No amount of convincing was going to change the lending officer's mind. They didn't like that part!

They called me up to discuss the problem. I took the application, realized the potential problem with income, and went to the accountant for a letter confirming the depreciation amount. We added that amount to their income and approached another lending institution to grant them two new mortgages. One based on their income with depreciation added back, the other based on the rental income paying all the bills. Both were approved. They liked that part!

John & Harriet went back to show their lending officer that they were approvable. The lending officer went to discuss the situation with his boss (Branch Manager) who in turn came out to see our couple. They were escorted into his large office. He offered them a cup of coffee and explained what had happened. He emphasized that he did not want to lose their business and that to show good faith, he would also approve the mortgages. Too little, too late! John & Harriet looked at each other, smiled, and walked out. They really liked that part!

The moral of this story has to do with experience. The lending officer had not had the opportunity of interviewing a business-for-self individual before. He knows now that depreciation can be taken into consideration as part of income, and a rental property that carries itself should be considered. Credit ratings, ratios, and common sense all play a part in the proper analysis.