# Dividend Money for Self employed



## akka (Feb 22, 2010)

Hi

If I get some Dividend Money as Self employed besdies to regular salary I withdraw,can my contrubutions to RRSP from total of both(Dividend +Salary) or salary portion only?

Apprciate response!
AK


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## FrugalTrader (Oct 13, 2008)

Yes you can use dividend money to contribute to your RRSP.


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## akka (Feb 22, 2010)

Thanks!


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## MoneyGal (Apr 24, 2009)

I could be wrong, but I understood the question as, "is my RRSP contribution limit based on my salary only, or is it based on my salary plus the dividends I withdraw from my business?"

If that's the question, the answer is that dividends are not included in the calculation of earned income for determining your RRSP contribution amount. This is something that self-employed people need to be aware of - if you minimize salary amounts (to minimize tax payable), you minimize RRSP contribution room. (This does not necessarily affect your tax-sheltering opportunities, though...)

However. If I misunderstood the question, just ignore this post.


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## FrugalTrader (Oct 13, 2008)

MoneyGal said:


> I could be wrong, but I understood the question as, "is my RRSP contribution limit based on my salary only, or is it based on my salary plus the dividends I withdraw from my business?"
> 
> If that's the question, the answer is that dividends are not included in the calculation of earned income for determining your RRSP contribution amount. This is something that self-employed people need to be aware of - if you minimize salary amounts (to minimize tax payable), you minimize RRSP contribution room. (This does not necessarily affect your tax-sheltering opportunities, though...)
> 
> However. If I misunderstood the question, just ignore this post.


Now that I re-read the post, I think you might be right MG.


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## peterk (May 16, 2010)

Hmm, so if you are self employed is there something stopping you from "paying" yourself entirely with a company dividend? Wouldn't the benefit of much lower dividend tax rates outweigh the loss of RRSP contribution room?
I'm probably missing something. That must be illegal.. seems too simple.


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## andrewf (Mar 1, 2010)

A salary is paid from pre-tax income for the corporation, whereas dividends are paid from after-tax corporate income. Also, you should probably at least pay yourself up to the basic personal amount, since the marginal tax rate (not counting payroll taxes) is zero.


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## FrugalTrader (Oct 13, 2008)

Peter, if you are the owner of the company, calculating the total tax, there is no tax difference between paying yourself a dividend or salary. As Andrew stated, salary is counted as a corporate expense, thus no tax at a corporate level, but full at a personal level. However, dividends are paid with after tax corporate dollars, but lower personal dollars. 

The biggest thing with paying a salary is the mandatory CPP contribitions from the company and the employee.


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## MoneyGal (Apr 24, 2009)

Yes FT! Is this a good spot for me to say I really do not support the idea of mandatory increased contributions to the CPP? 'Cause I don't.


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## Larry6417 (Jan 27, 2010)

I'm not sure I understand the OP's question, but when has that ever stopped me? 

The OP can use a dividend to pay into a RRSP, but the amount that can be contributed depends on earned income i.e. not dividends. Also, the tax treatment of dividends from a canadian controlled private corporation, which seems to be the case here, is much different than dividends from a public Canadian corporation. Because the small business tax rate is so low, the corresponding "gross up" (and tax advantage) is much less. See www.taxtips.ca/dtc/smallbusdtc.htm

If the OP paid himself with dividends only from his corporation, then alternative minimum tax may be a consideration. Because the small business tax rate is so low, dividends-as-salary may yield lower tax than salary alone i.e. Revenue Canada wouldn't be happy.


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## HaroldCrump (Jun 10, 2009)

MoneyGal said:


> Yes FT! Is this a good spot for me to say I really do not support the idea of mandatory increased contributions to the CPP? 'Cause I don't.


I agree with that and most folks I know will as well.
But don't you think there is scope for some "middle ground" here i.e. optional CPP contributions for those who don't have gold-plated DBPs and don't wish to be at the mercy of the markets?
Isn't this what Flaherty's meeting with the provincial finance ministers today in PEI is about?
There are lobby groups pushing to forcefully increase contributions till benefits double.
That may require doubling (or more) the premium contributions.
Do you know the numbers, MG, that it would take to double the benefits?

OTOH, there's those oil rich barons from AB who don't want the system touched.
If they had their way, they'd probably dissolve the entire system away.

Is it really that hard to agree on having a two-tiered system with optional contributions into the CPP?
That'd level the playing field between the DBP haves and have-nots.
Oh wait, then who'd want to work for the govt?


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## MoneyGal (Apr 24, 2009)

The question about what it takes to double the payouts is extremely sensitive to long-term interest rates. Depending on what rate assumptions I use, I can make the contribution required look really small (if I am Ken Georgetti) or really large (if I am a Finance minister from Alberta, for example). 

The issue with "voluntary" contributions is this: CPP is a "cheap" source of retirement income because everybody is FORCED to contribute - even those people who don't want to hedge their longevity risk, and those people who live shorter than the average (whether they want to hedge their risk or not). 

Once you make contributions voluntary, then you don't get the risk-pooling effect across a heterogenous population. Instead, you get people voluntarily contributing who are likely to live longer than average. This is the problem of adverse selection. Hence, it is better for people who want voluntary longevity insurance to simply purchase annuities on their own, without involvement from the CPP board. And nothing stops people from voluntarily annuitizing now or later.


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## Four Pillars (Apr 5, 2009)

HaroldCrump said:


> But don't you think there is scope for some "middle ground" here i.e. optional CPP contributions for those who don't have gold-plated DBPs and don't wish to be at the mercy of the markets?


MoneyGal beat me to it - but these are called annuities.


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## andrewf (Mar 1, 2010)

MoneyGal said:


> The question about what it takes to double the payouts is extremely sensitive to long-term interest rates. Depending on what rate assumptions I use, I can make the contribution required look really small (if I am Ken Georgetti) or really large (if I am a Finance minister from Alberta, for example).
> 
> The issue with "voluntary" contributions is this: CPP is a "cheap" source of retirement income because everybody is FORCED to contribute - even those people who don't want to hedge their longevity risk, and those people who live shorter than the average (whether they want to hedge their risk or not).
> 
> Once you make contributions voluntary, then you don't get the risk-pooling effect across a heterogenous population. Instead, you get people voluntarily contributing who are likely to live longer than average. This is the problem of adverse selection. Hence, it is better for people who want voluntary longevity insurance to simply purchase annuities on their own, without involvement from the CPP board. And nothing stops people from voluntarily annuitizing now or later.


I thought the idea with a voluntary supplementary pension system was not to offer a DBP, but a DC plan. The value-added was that we could get a large pool of money to be managed efficiently while giving unsophisticated investors an easy retirement savings plan. The private retail investment industry has a baffling array of choices, leading to investor inaction. Also, many of their products are far too expensive. Such a system could also take some of the guesswork out of 'pensionizing' their contributions by gradually shifting the allocation from securities to annuities, perhaps offered by the private sector insurers. Ambachtsheer wrote a paper outlining much of this for CD Howe, which I can link to if anyone is interested. The main point is that a government supplementary pension would offer trustworthy, simple-to-understand investment services and help those without DB plans meet their retirement savings goals in a cost effective manner and appropriate levels of risk.


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## MoneyGal (Apr 24, 2009)

I would be totally OK with that kind of a plan. However, that's not what's being proposed when people talk about "doubling the CPP." 

A DC pension plan isn't really a pension - it is more like a tax-deferred savings plan. 

Once you add inflation protection and, more importantly, longevity insurance - like with CPP - you've moved way beyond tax-deferred savings into "true" pension territory, which implies risk-pooling across a big, diverse population.


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## HaroldCrump (Jun 10, 2009)

MoneyGal said:


> I would be totally OK with that kind of a plan. However, that's not what's being proposed when people talk about "doubling the CPP."
> 
> A DC pension plan isn't really a pension - it is more like a tax-deferred savings plan.
> 
> Once you add inflation protection and, more importantly, longevity insurance - like with CPP - you've moved way beyond tax-deferred savings into "true" pension territory, which implies risk-pooling across a big, diverse population.


And that is what I am thinking of with the middle road option between the forced contributions camp and the down-with-CPP camp.
FP, I agree that is what an annuity provides.
However, (and this could just be my misguided belief, MG correct me if this is wrong), but as a retail annuity buyer you get pretty crappy deals when compared to true gold-plated DBP pensions like teachers, health care workers, federal, etc.
The deal you get for annuities depend on prevailing interest rates.
For instance, someone entering into an annuities contract today is prolly SOL.
Someone who bought an annuity during the hyper interest rates of the early 1980s prolly laughs his way to the bank first of every month.
To get an inflation indexed annuity with real longevity insurance that provides you income comparable to a similar pension in your profession must be very expensive these days.
So to say "_just buy an annuity_" is an easy answer, but the playing field isn't level.


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## MoneyGal (Apr 24, 2009)

It's actually a little more complicated than that. Especially at advanced ages, the valuation rate (the prevailing interest rate) has a smaller and smaller effect on annuity payments. Waiting for interest rates to rise before purchasing an annuity is a bit of a red herring, although it is true for younger ages. Here's an academic paper which provides some (mathematical and empirical) proof for this statement. 

The issue isn't that large purchasers "get better rates" on annuities - although that is a misconception that's out there. There aren't "wholesale" and "retail" annuities. 

What makes annuities cheaper to buy for large pension plans or any large group is (as I've said before and will continue to say) _forced participation_. When the insurance company is able to pool the payments from a large, diverse population, they are able to offer higher payouts to the survivors - because lots of people die at or before average life expectancy. 

However, this effect doesn't hold when you turn to privately-purchased annuities. Instead, you have what's called the "adverse selection" effect. That is, people only buy annuities when they are worried about living a long life and are in relatively good health. This population does NOT resemble the "average" population. Instead, annuity purchasers tend to be healthier - sometimes much healthier - than the population as a whole. 

One effect is that when you are pricing annuities, the payouts used by the insurance companies are NOT average mortality tables for the population as a whole. Instead, insurance companies use tables which estimate survival rates for healthy retirees - this is a very different survival probability graph than for the whole population.


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## MoneyGal (Apr 24, 2009)

And my other comment on this point is that forced participation leads to higher annuity payouts but at the expense of the free choice of the annuitant. I'm not suggesting that people be able to opt out of the CPP; not at all. 

But if someone says annuitants are getting a "raw deal" when they buy annuities privately - my response is no, they are getting a fairly priced deal. Forcing more people into the pool isn't the way to handle your individual longevity risk. People should be able to self-insure for longevity risk or, if they are not longevity-risk-averse, to let the chips fall where they may without making it my (and everyone else's) business.


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## HaroldCrump (Jun 10, 2009)

But then where do you draw the line?
Why have something like CPP in the first place?

A DBP is CPP on a smaller scale (within a company or an industry for example), but the issue is the same - whether to make it mandatory to get risk pooling or make it optional but have adverse selection.
The former is not ideal from a choice perspective and the latter is not economically viable/sustainable.
So where and how to draw the line?
Is the current rate of CPP participation the ideal balance between individual choice and group benefits?


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## MoneyGal (Apr 24, 2009)

I don't know whether it is the ideal balance. I'm just not in favour of tipping the balance towards more forced participation. I personally feel there is a fine amount of public pension income in Canada and I don't want to participate in a plan that provides more. 

And who says privately-purchased annuities are not economically viable or sustainable? They just don't provide the kind of payouts that DB pensions and CPP does. Nothing unsustainable about that!


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## andrewf (Mar 1, 2010)

On the other hand, if people on full CPP still receive OAS, we're suggesting that CPP benefits are insufficient. So, regardless of that individual's lifetime earnings, we need to top them up in their retirement to avoid them living in poverty due to lack of savings. So perhaps a compromise is to reform CPP so that its payments max out at the level to which we top up seniors. In this way, someone who had high lifetime earnings cannot freeload by not saving and receiving a GAI in retirement. If this level of income is $20,000, and we use a replacement rate of 60%, then CPP contributions should be on income up to $33.3k, at a rate sufficient to provide for a 60% replacement rate. Perhaps we should even require those who had insufficient past contributions top these up in years where they earn more than $33k.

The point is, we ought to eliminate the moral hazard here, and there are two ways to do it: make people contribute to CPP to provide a basic level of retirement income, or let seniors live in poverty. As it stands, OAS/GIS is essentially a second, pay as you go (current workforce pays for previous workforce's benefits) pension plan in addition to the funded CPP. The moral hazard comes in because the benefits are clawed back if you do any saving, lowering the incentive to pay for your own retirement. This seems far from ideal to me, and solvable by reforming GIS/OAS and rolling it into CPP where people had sufficient lifetime income to cover their retirement benefits.


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## MoneyGal (Apr 24, 2009)

Nooooooooo. The receipt of OAS is not a suggestion that CPP benefits are insufficient. OAS is just pure welfare, funded from general tax revenues. 

Given that only 5% of OAS recipients have any OAS clawed back (scroll down to the very bottom of that link for the reference), are you SERIOUSLY suggesting that 95% of Canadian seniors live in poverty? I think not!

YES there is a moral hazard but NO the way to resolve it is not to require more mandatory annuitization via CPP. If you want to reduce the moral hazard, reduce the threshold at which OAS begins to be clawed back. And, uh, good luck with that!


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## andrewf (Mar 1, 2010)

Sorry MG. I was more suggesting a reduction in OAS. Also, an increase in CPP so that anyone who receives full CPP is ineligible for GIS.


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## MoneyGal (Apr 24, 2009)

Anyone who receives full CPP and full OAS gets no GIS already. 

Sorry if I became overly inflamed. I got to the office at 8 a.m. today and left at nearly 8 p.m. and I am kind of fried. [need a little flaming icon here]


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## andrewf (Mar 1, 2010)

My point is that people should only receive income support if they are at risk of poverty, so OAS should generally be axed (but probably gradually as a matter of fairness), as it supplements income for even quite comfortable seniors. However, this might leave some seniors relying solely on GIS, which generally would not provide adequate income to keep them out of poverty. Thus, GIS should probably be beefed up to provide a benefit more in the range of $15k - $20k. Now, no one should receive GIS as a result of gaming the system, so to remove the moral hazard here, we could increase CPP contributions and benefits so that anyone with reasonable lifetime earnings (an average real wage that would result in the GIS benefit at a 60% replacement rate, say) would receive a sufficient pension to replace the GIS but funded entirely out of their contributions while they are working rather than out of general government revenues.

So, perhaps this means a 15 or 20% contribution rate on income to $32,000 rather than the current regime.

On OAS, it could be a political possibility if we reduced benefits for new retirees gradually so that OAS were phased out over 25 years (in 25 years, new retirees would receive no OAS). This is a matter of fairness, because people who are soon to retire have been supporting older retirees all their lives, and it would hardly be fair to suddenly eliminate the benefit.

The money saved from the elimination of OAS could be used to help create a guaranteed annual income for all Canadians, similar to GIS. This would allow some significant tax reform to reduce disincentive to work. This would all make RRSPs more appealing to Canadians, since for most people, they would face higher marginal tax rates in retirement than in their working years.


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## Mike59 (May 22, 2010)

Larry6417 said:


> If the OP paid himself with dividends only from his corporation, then alternative minimum tax may be a consideration. Because the small business tax rate is so low, dividends-as-salary may yield lower tax than salary alone i.e. Revenue Canada wouldn't be happy.


Although revenue Canada wouldn't be happy in theory, they continue to drop corporation tax rates (see 2011/12 schedules), making the practice of paying out non-eligible dividends instead of salary a favorable one. I doubt the CRA cares about the personal tax benefit here, as most incorporated professionals are funding RRSPs anyway and wouldn't take the all-dividend approach. My personal calculations show at minimum a 2-3% advantage in net after tax-income by taking dividends instead of salary. 

In tangent to the OPs question, I question one strange possibility about fueling the RRSP with dividends: 
- let's assume one generates RRSP room with a salary, then switches to a dividend-only source of income
- the dividends are used to fuel the RRSP
Upon withdrawl from the RRSP would there not be double-taxation? 
I assume one is taxed once when dividends were generated, and again in retirement as an RRSP withdrawal?


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## Larry6417 (Jan 27, 2010)

Of course paying dividends from a Canadian controlled corporation can be favourable. Your numbers re: advantage of dividends match Jack Mintzs's numbers (see http://sbinfocanada.about.com/od/corporatetax/a/ccpcadvantages.htm ), but Revenue Canada would almost certinly apply alternative minimum tax if one tried to pay oneself completely with dividends (a post queried about all dividends as "salary"). I think Revenue Canada cares an awful lot about tax advantages (small business owners are generally audited more than employees).


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## HaroldCrump (Jun 10, 2009)

So the meeting came and went and like most political meetings, nothing concrete seems to have emerged.
Basically, everyone agreed to disagree and went back to their day jobs while the taxpayer footed the bill for organizing this meeting at a remote location.
But based on post meeting statements, it sounds like the way forward is to expand the CPP is a slow, steady and controlled manner.
The part that makes me uneasy are the hints of moving towards a private sector based supplementary pension system.
Employers (or a group of) will be allowed to have a quasi DBP managed by a private sector financial institution (probably an insurance company like SLF or MLF).

_A task force of the Canadian Institute of Actuaries released a report that gave conditional support for multi-employer pension plans, administered in the private sector, which the ministers of finance also agreed to examine in the coming months.
Flaherty said the rules to allow financial institutions provide such plans to serve employers of all sizes, as well as the self-employed, could be in place as soon as the middle of next year.
But the task force of actuaries calls for having minimal set of government requirements, but said it “does not see how this plan could work if participants could opt in and out at will.” 
The actuaries envision a plan that would set a target for the pension benefit that a given level of contributions could provide, but argues there should be no guarantee provided by employers or future generations.

Benefits could be reduced if investment returns were less than expected._

It seems that this is a way for the govt. to appease those that want to expand the scope of social pensions yet wash its own hands off the issue.
By bringing in the private sector, they have offloaded the risk and management of the pension to a private corporation and yet gained political capital out of it.
My fear is that a private bank administered social pension plan will go the way RRSP (and now TFSAs) have gone.
Originally a good idea to induce individual saving habits and personal responsibility for saving for one's own retirement - yet, over a period of time has degenerated into a marketing and sales gimmick by the banks.
Riddled with fees, misinformation, deliberate misleading of non savvy small-time investors into products and services of the financial institutions themselves.
Net result is that even though the RRSP has been around for decades, ordinary Canadians are no further ahead in terms of their retirement savings.
In fact, many are worse off than if they had stuck all their retirement savings into a cash account at a bank.

I'm afraid this type of private pension scheme might go the same way.


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## andrewf (Mar 1, 2010)

The high fees and 'baffle-them-with-bullshit' approach taken by the investment industry is why I lean toward a government or at least not-for-profit supplementary pension. Of course, it too would not be a guaranteed DBP, but it could be a good approximation of one, with appropriate risk management and gradual annuitization of the investor account in retirement. You should be able to offer a probability of minimum income replacement rates, like a 95% chance of 50% income replacement for a given level of contribution, and let the saver decide what risk they are willing to bear.


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