Chapter 15Chapter 15
Corporate Taxation AndCorporate Taxation And
Management DecisionsManagement Decisions
The Decision To IncorporateThe Decision To Incorporate
Tax ReductionTax Reduction
Tax DeferralTax Deferral
Income SplittingIncome Splitting
Other Other ConsiderationsConsiderations
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.22
Incorporation: Incorporation: Other AdvantagesOther Advantages
Limited LiabilityLimited Liability
Shareholders’ liability to creditors Shareholders’ liability to creditors limited to amounts investedlimited to amounts invested
For smaller corporations, personal For smaller corporations, personal guarantees almost always guarantees almost always required to obtain significant required to obtain significant financingfinancing
Protection from other types of Protection from other types of liabilities (e.g., product liability)liabilities (e.g., product liability)
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.33
Incorporation: Incorporation: Other AdvantagesOther Advantages
Lifetime capital gains Lifetime capital gains deductiondeduction
Flexibility on timing and Flexibility on timing and character of incomecharacter of income
Foreign taxesForeign taxes
Estate planningEstate planning
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.44
Incorporation: Incorporation: DisadvantagesDisadvantages
Loss deductionsLoss deductions
Tax creditsTax credits
Charitable donations Charitable donations
(deduction, not credit)(deduction, not credit)
Cost of maintaining Cost of maintaining
corporationcorporation
Winding-up proceduresWinding-up procedures
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.55
Tax ReductionTax Reduction
See Paragraph 15-66 (Based See Paragraph 15-66 (Based on $100,000 of income)on $100,000 of income) Save $1,100 for CCPC with SBDSave $1,100 for CCPC with SBD
Neutral with respect to dividendsNeutral with respect to dividends
All other cases involve tax costAll other cases involve tax cost$1,040 for public company$1,040 for public company
$1,040 for CCPC on non-eligible $1,040 for CCPC on non-eligible incomeincome
$1,360 for CCPC investment income$1,360 for CCPC investment income
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.66
Tax DeferralTax Deferral
See Paragraph 15-66See Paragraph 15-66
Neutral on non-eligible dividendsNeutral on non-eligible dividends
Prepay Prepay CCPC investment incomeCCPC investment income
Eligible dividends subject to Part IVEligible dividends subject to Part IV
Deferral in other casesDeferral in other cases $16,000 for public company or CCPC $16,000 for public company or CCPC
without SBDwithout SBD
$30,000 for CCPC earning ABI$30,000 for CCPC earning ABI
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.77
CCPC Income > Small Business CCPC Income > Small Business LimitLimit
The ProblemThe Problem If over $500,000 ABIIf over $500,000 ABI
Flow through rate can be Flow through rate can be near 50%near 50%
The SolutionThe Solution Bonusing DownBonusing Down
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.88
Imperfections InImperfections InIntegration SystemIntegration System
Provincial dividend tax credits – non-eligible dividendsProvincial dividend tax credits – non-eligible dividends
DTCDTC 1/3 (33-1/3%) Gross Up – Favours use of corporation 1/3 (33-1/3%) Gross Up – Favours use of corporation
DTC < 1/3 (33-1/3%) Gross Up – Favours not incorporatingDTC < 1/3 (33-1/3%) Gross Up – Favours not incorporating
Actual range (2010): 10.5% to 40.0%Actual range (2010): 10.5% to 40.0%
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.99
Imperfections InImperfections InIntegration SystemIntegration System
Provincial dividend tax credits – eligible dividendsProvincial dividend tax credits – eligible dividends
DTCDTC 7/17 (41.2%) Gross Up – Favours use of corporation 7/17 (41.2%) Gross Up – Favours use of corporation
DTC < 7/17 (41.2%) Gross Up – Favours not incorporatingDTC < 7/17 (41.2%) Gross Up – Favours not incorporating
Actual range: 20.9 to 38.9%Actual range: 20.9 to 38.9%
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.1010
Imperfections InImperfections InIntegration SystemIntegration System
Different federal/provincial Different federal/provincial combined tax rates combined tax rates
Combined rates for CCPC on Combined rates for CCPC on ABI range from 12% to 19%ABI range from 12% to 19%
As all rates are less than As all rates are less than 20%, they favour 20%, they favour incorporationincorporation
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.1111
Tax Free DividendsTax Free Dividends
Basic ConceptsBasic Concepts$1 Non-Eligible Dividend Received$1 Non-Eligible Dividend Received$1.25 Increase In Taxable Income$1.25 Increase In Taxable Income
[($1)(125%)][($1)(125%)]Individuals In Lowest Federal Tax Individuals In Lowest Federal Tax
BracketBracketTaxes Are $0.1875 [($1.25)(15%)]Taxes Are $0.1875 [($1.25)(15%)]
Federal Dividend Tax Credit = $0.1667 Federal Dividend Tax Credit = $0.1667 [($0.25)(2/3)][($0.25)(2/3)]
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.1212
Tax Free DividendsTax Free Dividends
Tax on first $1 of Tax on first $1 of non-eligible non-eligible dividends is dividends is $0.0208 $0.0208 ($.1875 - $.1667)($.1875 - $.1667)
First $1 of non-First $1 of non-eligible dividends eligible dividends uses up available uses up available credits of $0.1387 credits of $0.1387 ($.0208 ÷ $.15)($.0208 ÷ $.15)
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.1313
Use Of Tax CreditsUse Of Tax Credits
$1 of salary uses $1 of $1 of salary uses $1 of
creditscredits
$1 of non-eligible $1 of non-eligible dividends uses $0.1387 of dividends uses $0.1387 of creditscredits
Dividends are a better Dividends are a better until credits are useduntil credits are used
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.1414
Amounts Available Tax FreeAmounts Available Tax Free
Single IndividualSingle Individual $40,844 Non-$40,844 Non-
EligibleEligible $ 66,625 Eligible$ 66,625 Eligible
With Dependent With Dependent SpouseSpouse $28,051 Non-$28,051 Non-
EligibleEligible $80,096 Eligible$80,096 Eligible
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.1515
Amounts Available Tax FreeAmounts Available Tax Free
Don’t forget the Don’t forget the alternative minimum alternative minimum tax (AMT)tax (AMT)
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.1616
Income SplittingIncome Splitting
Splitting income a very Splitting income a very powerful toolpowerful tool
Corporations very effective Corporations very effective herehere
Few limits for spouses and Few limits for spouses and adult childrenadult children
Problems with minor Problems with minor children (tax on split children (tax on split income)income)
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.1717
Shareholder BenefitsShareholder Benefits
The owner-manager The owner-manager environmentenvironmentNot arm’s lengthNot arm’s lengthFew constraints on use of Few constraints on use of
corporate resourcescorporate resourcesSometimes difficult to Sometimes difficult to
separate business and separate business and personal usepersonal useTravelTravelAutomobilesAutomobiles
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.1818
Shareholder BenefitsShareholder Benefits
AutomobilesAutomobilesStandby chargeStandby chargeOperating cost benefitOperating cost benefit
See Chapter 3, Employment IncomeSee Chapter 3, Employment Income
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.1919
Shareholder BenefitsShareholder Benefits
Benefits other than Benefits other than loansloansIncluded in Included in
shareholders’ incomeshareholders’ incomeNot deductible for Not deductible for
corporationcorporationShould be avoided!Should be avoided!
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.2020
Shareholder BenefitsShareholder Benefits
Loans - ITA 15(2)Loans - ITA 15(2) General RequirementsGeneral Requirements
Principal amount must be Principal amount must be added to shareholder’s added to shareholder’s incomeincome
No imputed interest under No imputed interest under ITA 80.4(2)ITA 80.4(2)
Can be deducted under Can be deducted under ITA 20(1)(j) when it is repaidITA 20(1)(j) when it is repaid
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.2121
Shareholder LoansShareholder Loans
ExceptionsExceptions Corporation In Lending Corporation In Lending
Business: ITA 15(2.3)Business: ITA 15(2.3) Loan repaid prior to Loan repaid prior to
second balance sheet second balance sheet datedate
Not Specified Not Specified ShareholderShareholder
If not in income – If not in income – imputed interest under imputed interest under ITA 80.4(2)ITA 80.4(2)
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.2222
Shareholder LoansShareholder Loans
ExceptionsExceptions Loans To Loans To
Shareholder/Employee:Shareholder/Employee:ITA 15(2.4)ITA 15(2.4)
To acquire personal To acquire personal residenceresidence
To acquire shares of the To acquire shares of the companycompany
To acquire an automobile to To acquire an automobile to be used in employment be used in employment dutiesduties
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.2323
Management CompensationManagement Compensation
General Principle: Salary is General Principle: Salary is BenchmarkBenchmarkFully taxable to shareholderFully taxable to shareholderFully deductible to corporationFully deductible to corporation
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.2424
Management CompensationManagement Compensation
Tax effective solutionsTax effective solutionsRPPsRPPsDPSPsDPSPsPrivate health carePrivate health careStock optionsStock options
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.2525
Salary Vs. DividendsSalary Vs. Dividends
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.2626
Example: Ms. Olney has $100,000 of corporate income and is subject to a tax rate of 45 percent
SALARY: No corporates taxes – personal taxes of $45,000 – retention of $55,000. Like direct receipt of income.
Dividends: Retention will depend on type of corporation and type of income (see Paragraph 15-66). Better retention only in the case of a CCPC earning active business income.
Salary vs. Dividends Salary vs. Dividends – Other Considerations– Other Considerations
Provincial rates and creditsProvincial rates and credits
Tax rates on individuals are not an issueTax rates on individuals are not an issue
High dividend tax credit rates encourage High dividend tax credit rates encourage the use of dividendsthe use of dividends
High corporate tax rates encourage the High corporate tax rates encourage the use of salaryuse of salary
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.2727
Salary vs. Dividends Salary vs. Dividends – Other Considerations– Other Considerations
Income splittingIncome splittingSome family Some family
members with no members with no incomeincome
Can receive Can receive substantial amounts substantial amounts of tax free earningsof tax free earnings
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.2828
Salary vs. DividendsSalary vs. Dividends – Other Considerations – Other Considerations
RRSP Contributions (2009*)RRSP Contributions (2009*)
$22,000 $22,000 18% = $122,222 = 18% = $122,222 = required 2009 earned incomerequired 2009 earned income
Dividends Dividends Earned Income Earned Income
RRSPRRSP
CPPCPP
*2010 Not Available Yet*2010 Not Available Yet
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.2929
Salary vs. Dividends Salary vs. Dividends – Other Considerations– Other Considerations
Cumulative net Cumulative net investment loss (CNIL)investment loss (CNIL) CNIL reduces available lifetime CNIL reduces available lifetime
capital gains deductioncapital gains deduction Receipt of dividends reduces Receipt of dividends reduces
CNILCNIL
Added costs of salaryAdded costs of salary CPP and EI premiumsCPP and EI premiums Payroll taxes (in some Payroll taxes (in some
provinces)provinces)
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.3030
Salary vs. Dividends Salary vs. Dividends – Other Considerations– Other Considerations
Added benefits of salaryAdded benefits of salary CPP and EI tax creditsCPP and EI tax credits
Canada employment Canada employment creditcredit
Corporate tax payableCorporate tax payable If distributions exceed If distributions exceed
incomeincome
No tax savings with salaryNo tax savings with salary
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.3131
Dividends - ProblemDividends - Problem Problem Problem
- All Dividend Approach- All Dividend Approach Use up tax credits at a slow Use up tax credits at a slow
raterate May leave unused tax creditsMay leave unused tax credits
SolutionSolution Pay a lesser amount of Pay a lesser amount of
dividends dividends Sufficient additional salary to Sufficient additional salary to
absorb tax creditsabsorb tax credits
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.3232
Basic DataBasic Data Corporate Taxable Income = $29,500Corporate Taxable Income = $29,500
Combined Corporate Tax On ABI = 16%Combined Corporate Tax On ABI = 16%
Provincial Tax On First $40,970 Of Personal Provincial Tax On First $40,970 Of Personal Taxable Income = 10%Taxable Income = 10%
Individual Has Combined Tax Credits Of $3,920Individual Has Combined Tax Credits Of $3,920
Provincial Dividend Tax Credit = 1/3 Of Gross Provincial Dividend Tax Credit = 1/3 Of Gross UpUp
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All SalaryAll Salary
No Corporate Tax PayableNo Corporate Tax Payable Salary Received = $29,500Salary Received = $29,500
Taxes At 25% (15% + 10%)Taxes At 25% (15% + 10%) ($7,375)($7,375)Personal Tax CreditsPersonal Tax Credits 3,920 3,920Tax PayableTax Payable ( 3,455)( 3,455)
After Tax Cash RetainedAfter Tax Cash Retained $26,045 $26,045
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All DividendsAll Dividends
Maximum DividendMaximum DividendCorporate IncomeCorporate Income $29,500$29,500
Corporate Tax At 16%Corporate Tax At 16% ( 4,720) ( 4,720)
Available For DividendsAvailable For Dividends $24,780$24,780Taxable DividendsTaxable Dividends
Dividends ReceivedDividends Received $24,780$24,780
Gross Up (25%)Gross Up (25%) 6,195 6,195
TaxableTaxable $30,975 $30,975
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.3535
All DividendsAll DividendsPersonal Taxes On DividendsPersonal Taxes On Dividends
Tax At 25 Percent [(25%)($30,975)]Tax At 25 Percent [(25%)($30,975)] $7,744 $7,744Personal Tax CreditsPersonal Tax Credits ( 3,920)( 3,920)Dividend Tax CreditDividend Tax Credit (Equal Gross Up)(Equal Gross Up)
( 6,195)( 6,195)Tax Payable (Negative $2,371)Tax Payable (Negative $2,371) Nil Nil
After Tax Cash RetainedAfter Tax Cash RetainedDividends ReceivedDividends Received $24,780$24,780Tax PayableTax Payable Nil NilCash RetainedCash Retained $24,780$24,780
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.3636
All DividendsAll Dividends
The All Dividend Approach Leaves The All Dividend Approach Leaves $2,371 In Unused Personal Tax $2,371 In Unused Personal Tax CreditsCredits
A Combination Of Salary And A Combination Of Salary And Dividends May Provide A Better After Dividends May Provide A Better After Tax RetentionTax Retention
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.3737
Dividend/Salary CombinationDividend/Salary Combination
Consider:Consider:For Each $1,000 Of Additional Salary PaidFor Each $1,000 Of Additional Salary PaidDividends Are Reduced $840.00 [($1,000)(1.00 - .16)]Dividends Are Reduced $840.00 [($1,000)(1.00 - .16)]
Increase In SalaryIncrease In Salary$1,000.00$1,000.00
Decrease In DividendsDecrease In Dividends( 840.00)( 840.00)
Decrease In Gross UpDecrease In Gross Up ( 210.00) ( 210.00)
Change In Taxable IncomeChange In Taxable Income ($ 50.00) ($ 50.00)
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.3838
Dividend/Salary CombinationDividend/Salary Combination
Decrease In Dividend Tax CreditDecrease In Dividend Tax Credit $210.00$210.00
Each $1,000 Increase In Salary Results In An Each $1,000 Increase In Salary Results In An Increase Of Tax Payable Of $197.50 [$210.00 – Increase Of Tax Payable Of $197.50 [$210.00 – (25%)($50)](25%)($50)]
Each $1 Increase In Salary Increases Tax Payable Each $1 Increase In Salary Increases Tax Payable By $0.1975.By $0.1975.
To Use Up $2,371 In Credits, Need Additional To Use Up $2,371 In Credits, Need Additional Salary Of $12,005 ($2,371/$0.1975)Salary Of $12,005 ($2,371/$0.1975)
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.3939
Dividend/Salary CombinationDividend/Salary Combination
Pre-Salary Taxable IncomePre-Salary Taxable Income $29,500$29,500
SalarySalary ( 12,005) ( 12,005)
Corporate Taxable IncomeCorporate Taxable Income $17,495$17,495
Corporate Tax At 16 PercentCorporate Tax At 16 Percent ( 2,799)( 2,799)
Available For DividendsAvailable For Dividends$14,696$14,696
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.4040
Dividend/Salary CombinationDividend/Salary Combination
Dividends ReceivedDividends Received$14,696$14,696
Gross Up (25%)Gross Up (25%) 3,674 3,674
Taxable DividendsTaxable Dividends$18,370$18,370
SalarySalary 12,005 12,005
Taxable IncomeTaxable Income $30,375$30,375
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.4141
Dividend/Salary CombinationDividend/Salary Combination
Personal Tax At [(25%)($30,375)]Personal Tax At [(25%)($30,375)]$7,594$7,594
Personal Tax CreditsPersonal Tax Credits ( 3,920) ( 3,920)
Dividend Tax Credit (Gross Up)Dividend Tax Credit (Gross Up) ( 3,674)( 3,674)
Personal Tax PayablePersonal Tax Payable Nil Nil
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.4242
Dividend/Salary CombinationDividend/Salary Combination
Dividends ReceivedDividends Received$14,696$14,696
Salary ReceivedSalary Received 12,005 12,005
Personal Tax PayablePersonal Tax Payable Nil Nil
After Tax RetentionAfter Tax Retention$26,701$26,701
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.4343
Dividend/Salary CombinationDividend/Salary Combination
All Salary ApproachAll Salary Approach $26,045$26,045
All DividendAll Dividend$24,780$24,780
Dividend/SalaryDividend/Salary$26,701 $26,701
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.4444
ConclusionsConclusions
All Dividends All Dividends IneffectiveIneffective Doesn’t use all creditsDoesn’t use all credits
Need minimum salary of Need minimum salary of $12,005 to use credits $12,005 to use credits (in this example)(in this example)
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.4545
ConclusionsConclusions
Combination Combination salary/dividend improves salary/dividend improves on all dividend and all on all dividend and all salarysalary
Reflects the fact that the 16 Reflects the fact that the 16 percent corporate rate is percent corporate rate is below the 20 rate built into below the 20 rate built into the dividend gross up and the dividend gross up and tax credit procedures.tax credit procedures.
© 2010, Clarence Byrd Inc.© 2010, Clarence Byrd Inc.4646
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