Your goals as a shareholder are influenced by life events that can affect the annual distribution between salary and dividends. You can choose to receive:
- A salary
- A bit of both: a salary plus dividends to enjoy the advantages of each
During working life
Why choose dividend payments?
- If you have financial expenses that you want to deduct from your provincial taxable income, dividends are investment income that will enable you to do so.
- If your taxable income is greater than the highest tax bracket of $216,511 in 2021 and you wish to lower your tax bill, it’s better to opt for dividends. The tax rate of dividends is 48.0% or 40.1% (depending on the type of dividend), which is lower than that of a salary (53.3%).
- If your cash flow needs are low, you can opt for a dividend, allowing you to pay minimal tax. For example, in 2021, you won’t have to pay tax on non-eligible dividends for a maximum amount of $28,900 at the federal level and $19,800 in Quebec, if that’s your only taxable income.
Why choose a salary payments?
- If you know that your current tax rate is higher than it will be when you retire, receiving a salary would enable you to contribute to your RRSP and withdraw these funds at a lower rate when you retire. For example, if your income tax rate is 50% when you contribute to your RRSP and 37% at retirement, you will have earned tax savings of 13%.
- If your company offers employees various group plans (such as life insurance, disability insurance or a pension fund), a salary will enable you to take advantage of these benefits.
- Small businesses aren’t always able to offer their employees group plans, so choosing a salary qualifies you for the Quebec Pension Plan (QPP) disability pension. If you’re not eligible for private plans, the coverage you could receive with this disability pension is something to consider.
- Corporations can benefit from a reduced tax rate. At the federal level, the tax rate can drop from 15% to 9% for the first $500,000 of business income. In Quebec, the tax rate can be reduced from 11.5% to 4% (3.2% as of March 26, 2021) once the company has reached 5,500 hours paid to its employees for the same income. The payment of a salary can facilitate taxation at these reduced corporate rates.
- If you have children or wish to have children, opt for a salary. Doing so will help you take advantage of the Quebec Parental Insurance Plan (QPIP) benefits on the birth or adoption of a child. The maximum insurable earnings is set at $83,500 in 2021. Your yearly childcare expenses are factored into your tax returns if you receive a salary. This isn’t the case if you only receive a dividend. To determine taxable income, dividends are increased by 15% or 38%, as the case may be. This means that a dividend will increase the income used to calculate the Canada Child Benefit (federal) and the Family Allowance (Quebec). It can therefore reduce your benefits.
Preparing for retirement
As a shareholder, you have 2 options for planning your retirement income.
- You can withdraw the surplus from the company in the form of a salary and dividends in order to place it in another investment vehicle.
- You can let the surplus accumulate within the corporation and withdraw it upon retirement in the form of a dividend.
If you have a more aggressive investor profile, you may want to leave the entire surplus in the corporation. Upon retirement, you’ll receive dividends generally taxed at a lower rate than RRSP withdrawals. If you don’t have investments outside your corporation, you may be left with few options in the event of a financial problem within the company. The Old Age Security (OAS) pension could then become your only source of income if you’ve never received a salary.
How to create a safety net
Pay yourself a salary to receive the QPP pension upon retirement (maximum salary on which contributions can be made in 2021: $61,600). You can also diversify your sources of retirement income with a salary, as it enables you to contribute to your RRSP.
Good to know
QPP and RRSP funds may not be available to creditors if you or your corporation experience financial troubles.
You’ll be taxed upon withdrawal of your RRSP. However, you can split the tax with your spouse if you’re 65 or older. You’ll each be able to take advantage of the pension income credit in addition to benefiting from lower tax rates.
Since dividends are grossed up in the calculation of taxable income, the potential loss of OAS should be factored into your retirement tax rate calculations. In fact, the beneficiary will be required to pay a portion of it back in 2021 if their income exceeds $79,845. If their income reaches $129,075, the entire amount must be repaid.
We recommend that you re-evaluate your compensation strategy yearly to help you reduce your tax bill.
If you have any questions, please don’t hesitate to contact a tax professional.