For anyone owning a corporation in Canada, the question of how you should pay yourself, will inevitably arise. Should you do it through salary, dividends, or both?
Ultimately, the choice you make will form the basis for your taxes and retirement contributions, determine how much credit you can access, and how your business will function financially. Some business owners default to whatever seems to be the simplest option, while those who work with a company tax accountant in Langley, can take advantage of smarter strategies for long-term savings.
Not sure how you should pay yourself? Take a look at the pros and cons of each option so you can make a well-informed choice:
Salary and dividends; the two main ways a business owner can withdraw money from their company
Let’s look at both:
- Salary – this is treated as employment income for tax purposes, and as an employee of your company, you receive a paycheck on a regular basis. Just as with a regular employee, payroll deductions are remitted to the CRA.
- Dividends – this describes after-tax profits that are distributed to you as a shareholder, from your business. Dividends are reported on a T5 slip and taxed at a different rate when you file your personal return.
Salary in a corporation
Your company can subtract your salary from any profits it makes, which then becomes a tax-deductible business expense. Your salary can be subtracted from the company’s profits before corporate tax is calculated, Then, you’ll issue a T4 slip and regularly remit payroll deductions to the CRA.
From a personal perspective, salary creates RRSP contribution room, demands CPP contributions, and can help when applying for a mortgage or credit.
Dividends in a corporation
Typically simpler to issue and more flexible, dividends are declared from the retained earnings of your company, recorded in the corporate minutes, and reported on a T5 slip.
Not a corporate deduction because they come from after-tax profits, they do however benefit from a dividend tax credit on your personal return. But as they aren’t counted as earned income, RRSP room won’t be generated, and you won’t contribute to CPP.
Tax implications of salary and dividends
Whether you earn income through salary or dividends, the total tax you pay should be approximately the same, but the precise total is dependent on which province you’re in and your level of income.
For lower earners, dividends might result in personal tax being slightly lower. For higher earners, salary might be a better option overall.
When to choose a salary
If you:
- Plan to build a retirement income through CPP
- Want to make the most of RRSP contributions
- Want to lower taxable profit for your company
- Need a predictable income for a loan or mortgage
An income that’s salary-based also gives access to certain tax deductions that are also applicable to employees and small business owners.
When to choose dividends
If you:
- Prefer not to manage payroll
- Have excess retained earnings and want cashflow to be simplified
- Aren’t as interested in RRSP contributions or CPP
- Would like to lower your personal tax rate while withdrawing income
But, if you aren’t working with bookkeeping services in Surrey and your books aren’t in order as a result, dividend recording errors can cause issues with the CRA.
Can salary and dividends be used?
Yes, and it can be an effective strategy to enable you to stay tax-efficient while still being able to meet all of your personal financial needs. it can also be useful when trying to set up a financial plan that balances long-term growth with short-term income.
The choice you end up making will be entirely dependent on your income goals, desire to save for your retirement, company profits, and your tolerance for admin and compliance. But the choice you make now doesn’t have to be the one you stick to; with the right professional bookkeeping, tax planning and financial strategies in place, how you pay yourself can be adapted over time.
