Overview
The Small Business Deduction (SBD) is one of the most significant tax advantages available to Canadian small businesses. Under ITA s.125, a Canadian-Controlled Private Corporation (CCPC) pays federal corporate tax at just 9% on its first $500,000 of active business income — compared to the general corporate rate of 15%.
Combined with provincial small business rates (typically 0–3.2%), the all-in effective corporate tax rate on eligible income is often 11–12%, versus ~26% at the general rate. On $500,000 of income, that difference is worth up to $70,000 in annual tax savings.
Do I Qualify?
- Your corporation is incorporated in Canada
- Your corporation is not listed on a stock exchange
- Your corporation is not controlled (directly or indirectly) by non-residents or public corporations
- Your corporation earns active business income in Canada (not purely passive investment income, personal services business income, or income from a specified investment business)
Most owner-operated Canadian businesses automatically qualify. If you have foreign investors who own more than 50% of the voting shares, your corporation may not be a CCPC.
The $500,000 Business Limit
The SBD applies to active business income only — income from carrying on a business in Canada. It does not apply to:
- Investment income (dividends, interest, rent) earned passively
- Income from a personal services business (incorporated employee)
- Income from a specified investment business
The $500,000 limit is shared among associated corporations. If you own two CCPCs that are “associated” (common control), they split one $500,000 limit between them.
The Passive Income Grind-Down
This is the most important caveat to understand. If your CCPC earns more than $50,000 of passive investment income in a year, the $500,000 business limit is reduced — and at $150,000 of passive income, the SBD is eliminated entirely.
The reduction is $5 of SBD limit for every $1 of passive income above $50,000.
| Passive Investment Income | SBD Business Limit Remaining |
|---|---|
| $50,000 or less | $500,000 (no reduction) |
| $100,000 | $250,000 |
| $150,000+ | $0 (SBD eliminated) |
Why this matters: Many successful small business owners accumulate investment portfolios inside their corporations. Once that portfolio generates $50,000+ in annual income (dividends, interest, capital gains), the SBD begins to erode. This is a key planning trigger.
How to Claim It
The SBD is claimed automatically on your corporation’s T2 corporate tax return (Schedule 7 for passive income, Part 1 of the T2 for the SBD deduction itself). Your accountant should be claiming this — but it’s worth confirming the amount claimed matches your expected active business income.
There is no separate election or application. File your T2, claim the deduction.
Provincial Tax Rates
Every province also has a small business corporate rate. Combined federal + provincial rates for eligible income (as of 2025):
| Province | Federal SBD Rate | Provincial SB Rate | Combined |
|---|---|---|---|
| Ontario | 9% | 3.2% | 12.2% |
| BC | 9% | 2% | 11% |
| Alberta | 9% | 2% | 11% |
| Quebec | 9% | 3.2% | 12.2% |
| Nova Scotia | 9% | 2.5% | 11.5% |
Planning to Preserve Your SBD
If your corporation is approaching the passive income threshold, consider:
- Pay out passive investment income as salary or dividends before year-end to reduce corporate investment income
- Hold investments personally or in a separate holdco instead of inside the operating company
- Invest in active assets (equipment, real estate used in the business) rather than passive portfolios
- Use a holding company structure where the holding company owns the passive portfolio separately from the operating company — but note the $50K threshold still looks through to associated corporations in some structures
Frequently Asked Questions
Does the Small Business Deduction apply automatically, or do I need to apply for it?
It applies automatically when your accountant files your T2 corporate return — there is no separate election. The deduction is calculated on Schedule 7 and claimed on the T2. Review your Notice of Assessment to confirm the SBD amount was applied correctly.
My corporation has two shareholders — my spouse and me. Do we each get a $500,000 SBD limit?
No. A CCPC gets one $500,000 business limit. If you own multiple companies that are “associated” (under common control or common ownership), those companies share one $500,000 limit allocated among them. Having two shareholders in one corporation doesn’t change the limit — you still have $500,000 of SBD-eligible income total.
What counts as “active business income” for the SBD? Does rental income qualify?
Active business income is income from carrying on any business in Canada, other than a specified investment business or personal services business. Rental income is generally passive (a “specified investment business”) unless you employ more than five full-time employees. Investment income — interest, dividends from non-associated companies, and most capital gains — does not qualify. Income from professional services, trades, retail, and most service businesses does qualify.
Our corporation earned $80,000 in passive investment income this year. How much does that reduce our SBD?
The passive income grind reduces the $500,000 business limit by $5 for every $1 of passive income above $50,000. With $80,000 of passive income, you’re $30,000 above the threshold, so the SBD limit is reduced by $150,000 (5 × $30,000). Your available SBD business limit is $350,000 instead of $500,000.
Is there any way to recover SBD room lost due to passive income in a prior year?
The passive income grind is calculated year by year — it does not permanently reduce your SBD room. If your passive income drops below $50,000 in a future year, your full $500,000 SBD limit is restored for that year. This means reducing passive income (by paying it out as dividends, liquidating investments, or restructuring) has an immediate benefit in the current tax year.