# Dividend Taxation In A Corporation



## tygrus (Mar 13, 2012)

I cannot seem to find a clear answer on this so hopefully someone can help.

As an individual, if I hold companies with eligible dividends, I am entitled to a dividend tax credit up to $50,000 as explained in this article: 

http://www.theglobeandmail.com/glob...-in-earned-dividends-0-in-tax/article4599950/

This means with no other income, I can collect $50,000 in dividends and pay no tax. Nice.


Now if I have my own corporation and I buy the same companies inside of it then flow the eligible dividends out to me as the owner, how is that taxed?


----------



## Homerhomer (Oct 18, 2010)

tygrus said:


> Now if I have my own corporation and I buy the same companies inside of it then flow the eligible dividends out to me as the owner, how is that taxed?


The same way as if you were to hold the investments individually.


----------



## Canadian (Sep 19, 2013)

The corporation will be obligated to pay Part IV tax on dividends received (33-1/3% of eligible divs received) and the refund will equal Part IV tax if _all_ dividends flow through to the shareholder. The issue is that the dividends paid to the shareholder from the corporation are non-eligible and therefore have less of a benefit to the shareholder than if he were to receive the eligible dividends directly.

I should add that investments that distribute interest and ROC will result in additional corporate taxes.


----------



## andrewf (Mar 1, 2010)

Aren't the dividends, when flowed through the CCPC, still classified as eligible dividends?


----------



## Homerhomer (Oct 18, 2010)

Canadian said:


> The corporation will be obligated to pay Part IV tax on dividends received (33-1/3% of eligible divs received) and the refund will equal Part IV tax if _all_ dividends flow through to the shareholder. The issue is that the dividends paid to the shareholder from the corporation are non-eligible and therefore have less of a benefit to the shareholder than if he were to receive the eligible dividends directly.
> 
> I should add that investments that distribute interest and ROC will result in additional corporate taxes.


That's not correct, eligible dividends earned by the corporation are then flowed to shareholder as eligible dividends.

In addition Return of Capital is simply a repayment of capital and in itself not taxable, but it reduces the ACB of the investment which will have an effect on the capital gain calculation once the investment is sold.


----------



## tygrus (Mar 13, 2012)

So if I understand it, my company earns the main income, pays 10% tax on it and then invests the rest and flow the dividends out to to me the owner whereas I am eligible for the Dividend Tax Credit and pay no additional tax so long as it stays under $50,000?

Now second question, what if the dividend stays in the company and gets reinvested in a DRIP. Whats the tax hit then?


----------



## Canadian (Sep 19, 2013)

Homerhomer said:


> That's not correct, eligible dividends earned by the corporation are then flowed to shareholder as eligible dividends.
> 
> In addition Return of Capital is simply a repayment of capital and in itself not taxable, but it reduces the ACB of the investment which will have an effect on the capital gain calculation once the investment is sold.


You are correct - my mistake! (At work and wasn't paying total attention :cower

My comment re ROC was alluding to reducing the cost base of the underlying - which will increase the taxable capital gain when sold. Capital gains taxes are not treated favourably in a corporation.


----------



## andrewf (Mar 1, 2010)

Aren't they? Only half the gain is taxable, the other half goes into the capital dividend account, which can be distributed tax free to the owner(s) of the CCPC.


----------



## Canadian (Sep 19, 2013)

tygrus said:


> Now second question, what if the dividend stays in the company and gets reinvested in a DRIP. Whats the tax hit then?


The corporation will pay Part IV taxes on the dividends received. When the dividends are paid out to the shareholder the corporation can receive a refund and the shareholder will be taxed on the dividends received (if any).


----------



## Canadian (Sep 19, 2013)

andrewf said:


> Aren't they? Only half the gain is taxable, the other half goes into the capital dividend account, which can be distributed tax free to the owner(s) of the CCPC.


Yes, but the taxable portion does not receive the small business deduction or general rate reduction, so it is taxed at a higher rate. The taxable portion is also subject to additional refundable taxes (6-2/3%). Unless there's something I'm missing here I'm of the opinion that capital gains are better taxed directly in the hands of the shareholder.


----------



## Eclectic12 (Oct 20, 2010)

Homerhomer said:


> .... In addition Return of Capital is simply a repayment of capital and in itself not taxable, but it reduces the ACB of the investment which will have an effect on the capital gain calculation once the investment is sold.


What you describe is the tax deferred situation ... there is also the taxable situation where:


> Any ROC received after ACB reaches zero *must be reported in the tax return for the year of receipt as a capital gain*, as TaxTips.ca notes in Tax treatment of income from investments in income trusts.


http://howtoinvestonline.blogspot.ca/2010/07/return-of-capital-separating-good-from.html
http://www.taxtips.ca/personaltax/investing/taxtreatment/incometrusts.htm

This is why it annoys me that so many sources talk about "tax free" or "not taxable" - no matter when it is paid, $1 RoC is going to result in a taxable $1 capital gain. It is only a question of in which tax year it is recorded on the tax return.


Cheers


----------



## Homerhomer (Oct 18, 2010)

Eclectic12 said:


> What you describe is the tax deferred situation ... there is also the taxable situation where:
> 
> http://howtoinvestonline.blogspot.ca/2010/07/return-of-capital-separating-good-from.html
> http://www.taxtips.ca/personaltax/investing/taxtreatment/incometrusts.htm
> ...


Yes, that's correct, it happens most often when the distributions are received after the security is sold, at which point it automatically becames capital gain.


----------



## Eclectic12 (Oct 20, 2010)

^^^

Part of the reason this terminology is an issue, IMO is that where people take it at face value as "not taxable", they have not idea there could be an issue and are not tracking this.

When one reviews the breakdown of some REITs that have years of 100% or 93% RoC for years, it's entirely possible that after making a purchase, it can be as short as three years for the ACB to hit zero or become negative, triggering the yearly capital gain reporting.

... and that ignores what appears to be a large number of people who have no idea that their ETF or MF is paying RoC. 
The buffer is that usually it's a lot less RoC but where the investment is held for twenty plus years, it is going to add up.


Cheers


----------



## tygrus (Mar 13, 2012)

This is a follow up question hopefully someone can help.

If I invest in dividend stocks inside my corporation and use the dividends to pay some of my companies regular expenses, how is that taxed?

example, I make $100,000 in my business after tax. I then buy some ETFs yielding 5% and then I use that dividend to pay my employee every month.


----------



## Canadian (Sep 19, 2013)

You will pay Part I taxes on the business income, reduced by expenses, and Part IV tax on the dividend income. The tax return and the CRA don't distinguish or really care what type of income (business vs dividends) is used to pay the expenses. You will pay Part IV taxes on the amount of dividends received, regardless if your expenses are equal to or greater than the dividend income. Any eligible dividends you receive will increase the corporation's GRIP balance (assuming the corporation is a CCPC), and the corporation can pay eligible dividends to the extent that the GRIP balance is positive (there are more details involved that I don't feel are necessary at this time). The corporation will receive a dividend refund when dividends are paid out to shareholders (again, more details involved that are not necessary right now).

On a side note, I would be cautious about the ETFs selected. If the corporation invests in ETFs that have some holdings that distribute non-eligible dividends, interest, or ROC, then it can cause unfavourable tax consequences. Additionally, it may be time consuming to confirm the type of returns distributed by an ETFs individual holdings.


----------



## FrugalTrader (Oct 13, 2008)

@tygrus, in that scenario, my understanding is that the company will pay Part IV tax on the distributions (providing eligible dividends), but you will can claim the employee salary as a business expense.


----------



## tygrus (Mar 13, 2012)

So if I understand this correctly, it would be better tax wise just to pay my employee's wages right out of the company profits before investing the remainder and then just flowing out those dividends to me as the owner thus qualifying for the individual dividend tax credit?


----------



## warp (Sep 4, 2010)

Interesting reading.

I do want to get one thing clear in my head.
If my corp recieves ELIGIBLE dividends, ( as it will), I understand and know about the corp having to pay the "part 4" tax.
I also understand that this tax will be refunded to the corp once the divs are paid out by the corp to its owner......me.

I want to ask and be sure about the fact that these dividend payments from the corp to me will in fact also be considered "ELGIBLE" dividends....as oppsed to other regular dividends that I now take from my corp, that are " OTHER THAN ELIGIBLE" dividends, and not as good tax wise.

As always tax law in a mess and a jungle, forcing Canadians to pull their hair out or/and pay accountants because its so confusing and ridiculous.


----------



## andrewf (Mar 1, 2010)

I'm not sure about the unfavourable tax treatment. Under the principle of integration, taxpayers should more or less indifferent between earning the income personally or through the CCPC.


----------



## Canadian (Sep 19, 2013)

warp said:


> I want to ask and be sure about the fact that these dividend payments from the corp to me will in fact also be considered "ELGIBLE" dividends....as oppsed to other regular dividends that I now take from my corp, that are " OTHER THAN ELIGIBLE" dividends, and not as good tax wise.


All dividends paid to the shareholder qualify as eligible dividends as long as the amount does not exceed the amount of eligible dividends received by the corporation during the year. The amount can be less if the shareholder would prefer some money to remain in the corporation - the amount that eligible dividends received by the corporation exceeds eligible dividends paid to the shareholder will remain in the corporation's GRIP balance. Ensuring the eligibility of dividends received by the corporation is important because if the corporation pays dividends designated as eligible to the shareholder and it causes the year end GRIP balance to be negative, CRA will disallow any of the dividends to be eligible and will actually tack a higher tax rate on the dividends as a penalty.


----------



## Canadian (Sep 19, 2013)

andrewf said:


> Under the principle of integration, taxpayers should more or less indifferent between earning the income personally or through the CCPC.


Integration (almost) works when the CCPC earns active business income or eligible dividends, and then pays the shareholder in form of dividends. This is because active business income is taxed at low rate (typically ~15% combined federal/provincial taxes on the first $500k) and the corporation (typically) receives a refund when it pays dividends. The combination of the low corporate tax rate and the income earned by the shareholder in the form of dividends creates the scenario where the corporate/personal taxes paid are similar to the amount of personal tax paid if the active business income was earned and taxed as normal income.

Interest and the taxable portion of capital gains earned by a CCPC are not eligible for the small business deduction or the general rate deduction, and are subject to aggregate refundable taxes, so the tax paid on this income is much higher (typically ~35%-40%). Interest and the taxable portion of capital gains do increase the corporation's RDTOH balance (it can potentially receive larger dividend refunds), but this does not offset the burden of higher taxes. The corporation is already paying a high rate of tax in this scenario, so when personal taxes are added to the equation, we can see that the shareholder is better off earning this type of income directly.

Another issue with integration is in many of the provinces, the provincial portion of the dividend tax credit is less than what is required to create perfect integration.


----------



## andrewf (Mar 1, 2010)

I dunno. I'm referring the page 9 of this file:

https://repsourcepublic.manulife.co...ERES&CACHEID=9f9b1800433c3fd8b844fe319e0f5575

Am I misinterpreting or is it incorrect? As far as I can tell, integration works pretty well, with the differences in tax rates being quite small if the income is fully flowed through to the shareholder.


----------



## Canadian (Sep 19, 2013)

The example of dividends received from Canadian corporations (not connected) looks fine but it looks like the Interest and Capital Gains scenarios left out the ART portion of Part I taxes, that is 6-2/3%. The document you have attached gives integration examples for Ontario. It would be interesting to see the comparison if they produced examples for all provinces.

A large factor that I would like to highlight, too, is that the province in which one resides affects the effectiveness of integration. The personal tax rates vary, but more importantly, the provincial portion of the dividend tax credit. The provincial portion of the DTC must be 5/11 of the gross up on eligible dividends and 1/3 of the gross up on non-eligible dividends for integration to work perfectly. I live in a province with high tax rates and comparably low provincial DTCs, which is why I'm cautious to say that integration will _always_ work.


----------



## warp (Sep 4, 2010)

Canadian said:


> All dividends paid to the shareholder qualify as eligible dividends as long as the amount does not exceed the amount of eligible dividends received by the corporation during the year. The amount can be less if the shareholder would prefer some money to remain in the corporation - the amount that eligible dividends received by the corporation exceeds eligible dividends paid to the shareholder will remain in the corporation's GRIP balance. Ensuring the eligibility of dividends received by the corporation is important because if the corporation pays dividends designated as eligible to the shareholder and it causes the year end GRIP balance to be negative, CRA will disallow any of the dividends to be eligible and will actually tack a higher tax rate on the dividends as a penalty.


Thanks for the reply CANADIAN,

I just talked to my Acountant buddy , who does my corp taxes, ( I do all the persoanl stuff myself). he concurs that the corp can pay out any Eligible divs it receives from investments . etc, as Eligible Divs to me. Any monies above that would be "INeligible divs.

I didnt get into what would happen if the corp payed out only a portion of the Eligible divs it receives in any given year , but I will ask him. Are you saying that any Eligible divs not payed out in the year received would stay in the corp in an "Eligible Div account", and could subsequently be paid out as Eligible divs in a future year?

As much as I hate all this tax nonsense, I do enjoy learning about it so I can apply any info/knowlegde to lower my tax bill. Thanks again.


----------



## Homerhomer (Oct 18, 2010)

warp said:


> I didnt get into what would happen if the corp payed out only a portion of the Eligible divs it receives in any given year , but I will ask him. Are you saying that any Eligible divs not payed out in the year received would stay in the corp in an "Eligible Div account", and could subsequently be paid out as Eligible divs in a future year?
> 
> .


Yes, you don't have to pay out the eligible dividends in the same fiscal year, you can do it at any time later on, however if you don't flow through the dividends to yourself individually your corporation will pay tax on it which will be refunded by CRA to the corporation when the dividends are paid to the shareholders. It makes sense to do so if you can expect your personal income to be much lower in the not so distant future.


----------



## andrewf (Mar 1, 2010)

You can use a CCPC to try and smooth your investment income/ensure you are fully utilizing your lower marginal tax rate income every year (ie, income under $60k). If you held it all personally, with rebalancing you may have some years with very high income and other years with very low income. On the other hand, you don't want to delay paying out corporate income too long, as the government still gets its ~50% tax cut until you pay it out, and that money is not invested earning a return.


----------



## Canadian (Sep 19, 2013)

Homerhomer said:


> Yes, you don't have to pay out the eligible dividends in the same fiscal year, you can do it at any time later on, however if you don't flow through the dividends to yourself individually your corporation will pay tax on it which will be refunded by CRA to the corporation when the dividends are paid to the shareholders. It makes sense to do so if you can expect your personal income to be much lower in the not so distant future.


+1

This is a good explanation.

If dividends are left in the corporation, you can inquire with your accountant or the CRA the corporation's current GRIP balance. This is the amount of eligible dividends that can be paid to the shareholder. When dividends eventually flow to the shareholder (doesn't matter if eligible or non-eligible), the corporation will receive a dividend refund of the lesser of 1/3 of dividends paid and the corporation's RDTOH balance (RDTOH is another type of corporate tax account - I'm not sure the discussion of it is relevant right now).


----------



## Canadian (Sep 19, 2013)

andrewf said:


> You can use a CCPC to try and smooth your investment income/ensure you are fully utilizing your lower marginal tax rate income every year (ie, income under $60k).


This is a good way to lower taxes. Although this discussion has largely surrounded dividends, a combination of dividends and salary is common so that the shareholder receives the benefits of increased RRSP contribution room and CPP benefits (assuming the shareholder doesn't have another job that already earns a salary).


----------

