Case Study: Income Splitting Through Dividend Income

August 2, 2017

 

IMPORTANT NOTICE: Professional medical corporation information on MD’s web site is based on existing incorporation rules which may be impacted by proposals announced in the Department of Finance’s policy paper entitled “Tax Planning Using Private Corporations.”  MD is monitoring these proposals and we will update our tax planning strategies accordingly should rules change. For more details, please read MD’s blog Tax Planning Using Private Corporations, What’s Next: A Summary of Finance Announcements

If you’re an incorporated physician looking for a way to increase tax efficiency, consider splitting corporate dividend income with other family members who are also shareholders of your corporation.

You may also want to read other case studies on dividend income and salary and dividend income.
 

CORPORATE

ACTIVE BUSINESS INCOME

 

Tax Rates

< $500,000

14.00%

> $500,000

28.00%

INVESTMENT INCOME

 

Tax Rates

Interest

51.65%

Dividends

38.33%

INCORPORATION COSTS

 

Fees

First year

$4,000

Second year

$2,000

 

INDIVIDUAL

SALARY/SELF-EMPLOYMENT INCOME

 

Tax Rates

< $45,000

24.00%

$45,000–$90,000

33.00%

$90,000–$140,000

40.00%

$140,000–$200,000

45.00%

> $200,000

50.00%

DIVIDENDS1

 

Gross-up

Tax Credit

Non-eligible

17.00%

14.00%

Eligible

38.00%

25.00%

TAXES

Basic personal amount

$11,635

Maximum RRSP contribution limit

$26,010

1 Non-eligible dividends receive a preferential tax treatment that results in an effective tax rate of approximately 42% in the highest bracket. Eligible dividends receive a preferential tax treatment that results in an effective tax rate of about 35% in the highest bracket. Dividend tax credits shown are as a percentage of grossed-up dividends.

NOTE: The following example is presented for illustrative purposes only. All content and data in this article are based on estimated combined federal and provincial tax rates and credits for 2017. Actual tax rates and credits will vary between provinces. In calculating tax, only the basic personal non-refundable tax credit was considered and the assumed corporate and individual tax-related figures appear in the two tables immediately above.

Scenario

Paul and his wife, Diane, are shareholders of the professional corporation. In this example, Paul earns $150,000 after eligible expenses. As a self-employed individual, he pays $47,240 in taxes, leaving him with $102,760 after tax. If he incorporates his practice, the corporation earns the revenues, which can be paid out to Paul and Diane in the form of dividends. If Paul leaves funds in the corporation, he can benefit from a tax deferral of 17.5%. If all funds flow out to him and his wife, the couple will have a combined $111,566, after tax, in the year of incorporation, which doesn’t provide tax deferral but does allow for a tax savings of 9%. (Note: This assumes Diane and Paul have no other sources of income.) It also would eliminate CPP income and expenses, as well as registered retirement savings plan (RRSP) contribution room.
 

 

UNINCORPORATED

INCORPORATED

 

 

YEAR 1

YEAR 2+

Professional income (after expenses)

$150,000

$150,000

$150,000

Incorporation costs

($4,000)

($2,000)

Net income

$150,000

$146,000

$148,000

Taxes

($47,240)

($20,440)

($20,720)

After-tax cash

$102,760

$125,560

$127,280

TAX DEFERRAL

17.5%

17.5%

Non-eligible dividend: Paul

$62,780

$63,640

Non-eligible dividend: Diane

$62,780

$63,640

Taxes: Paul

($6,997)

($7,188)

Taxes: Diane

($6,997)

($7,188)

After-tax cash

$102,760

$111,566

$112,903

TAX SAVINGS

9%

10%


A $26,010 RRSP contribution in 2017 represents deferral of approximately 17% of $150,000 and an immediate (top rate) tax reduction of about $12,900 (tax savings depend on income at time of withdrawal).

Does incorporation make sense?

In this situation, it may be beneficial to incorporate. The tax savings arise due to the graduated tax rate system, as well as the dividend tax credit, which basically allows an individual who earns no other income to receive a non-eligible dividend of up to $35,000 free of federal tax or eligible dividends of approximately $50,000.

If you have family members working within your incorporated practice, talk to your MD Advisor to see how an income-splitting strategy can help you save taxes.

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Case Study: Dividend Income Challenges: No Income Splitting; Exceeding the Tax-Rate Threshold

IMPORTANT NOTICE: Professional medical corporation information on MD’s web site is based on existing incorp...

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8 Important Factors to Consider When You Have Incorporated Your Practice

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