Should I pay myself salary or dividends as a business owner?

Should I pay myself salary or dividends from my corporation?

This is a very common question that I encounter in my accounting practice in Mississauga, and the answer can make a big difference in your bottom line.

Advantages of Salary – Should I pay myself salary or dividends from my corporation – Accountant Mississauga

Should I pay myself salary or dividends from my corporation? To answer this question, you should look at the advantages and disadvantages of each.

The advantages of paying yourself a salary from your corporation are:

•   Salary is treated as earned income for RRSP purposes. This means that salary increases your RRSP room.
•   Salary is ‘provable income’ for financing purposes. If you are planning on applying for a line of credit or a mortgage, then paying yourself a salary will help you qualify.
•   Salary is subject to Canada Pension Plan (CPP) premiums. By paying into the Canada Pension Plan your entitlement to CPP will increase.
• Any salary or bonus that is paid out will be taxed deductible for the corporation
• If your spouse or children are employees, you can use salary for income-splitting strategies

Disadvantages of Salary

The disadvantages of paying yourself salary from your corporation are:

•   Paying salary is administratively cumbersome. You may have to hire an accountant in Mississauga to manage payroll remittances to the Canada Revenue Agency, preparation of T4 slips, calculation of source deductions, etc.
•   Salary is subject to CPP premiums at a rate of 9.9 cents for every $1 of salary. This can be expensive.
• Salary will be considered as personal income and will be subject to personal income tax rates based on your total taxable income.

Advantages of Dividends – Should I pay myself salary or dividends from my corporation – Accountant Mississauga

The advantages of paying yourself a dividend from your corporation are:

•   Dividends are taxed at a lower rate than salary. In fact, the first $40,000 of dividends can be received completely tax-free.
•   Dividends are not subject to CPP premiums, which can add up to big savings.
•   Dividends are administratively simple. You do not have the burden that you do with payroll. To pay yourself a dividend, you simply write a cheque to yourself from your corporation, record it in your corporate minute book and file a T5 return.

The disadvantages of dividends

• While not paying CPP Premiums may be seen as big savings in the short-term, this is not necessarily the case in the long-term.  Although this may depend on the individual, contributing to CPP premiums now will only add to your CPP benefits when you are eligible to claim it.
• If you have children and are paid only through dividends, you will not be eligible to claim childcare costs because you do not have any earned income.

In order to pay dividends, your articles of incorporation must allow for dividends to be paid. I recommend having your articles of incorporation reviewed by a business lawyer or Accountant in Mississauga.

Additionally, at the end of each year, a business lawyer should update your corporation’s minute books and prepare a director’s resolution for the dividends paid.

Note: To understand exactly how dividends are taxed, please see why dividends are grossed up for tax purpose

Update December 2013

The 2013 Canadian Federal Budget has made changes to the dividend tax rules taking effect January 1, 2014.  The changes will increase the dividend tax rate on non-eligible dividends (i.e. dividends from small corporations from 19.58% to 21.22%.

Prior to 2014, dividends were more financially beneficial than salary due to the low tax rate on dividends.  However, the increase in tax on non-eligible dividends has wiped-out the absolute advantage that dividends once held over simply collecting salary.

For more information on the Canadian 2013 budget regarding dividends and taxation changes, please consult the Government of Canada website.

Conclusion – Salary vs. Dividends

Now that you know the advantages and disadvantages of dividends and salary, you should consult with an accountant in Mississauga to determine which one best fits your circumstances.

ABOUT THE AUTHOR

ALLAN MADAN

CPA, CA

Allan Madan is a CPA, CA and the founder of Madan Chartered Accountant Professional Corporation. Allan provides valuable tax planning, accounting and income tax preparation services in the Greater Toronto Area.

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