How to pay yourself as a business owner-Salary vs Dividend.
Small business owners in Canada can choose to pay themselves a salary or earn a personal income through dividends.The type of remuneration that an owner-manager decides to draw from their businesswill impact both the owner-manager and their corporation.
This blog will examine the differences between a salary and dividends, including the pros and cons associated with each.
SALARY/WAGES
If you are paying yourself a salary or wage (same thing), the payments become an expense of the corporation, and then employment income for you personally-you’ll get a T4.The cost reducesthe corporation’s taxable income,which reduces corporate tax owing.
DIVIDENDS
Dividends are payments to shareholders of a corporation that are paid from the company’s after-tax earnings. This means that dividends are not a corporate expense and do not reduce the corporate taxes paid. The flip side is that dividends carry less personal tax liability than wages because they come with a dividend tax credit.
- RRSP CONTRIBUTION-Salaries build RRSP (Registered Retirement Savings Plan) room,allowing you to contribute to an RRSP.RRSPs have various tax advantages compared to investing outside of tax-preferredaccounts.RRSP contributions can be used to reduce your tax.
- CPP CONTRIBUTION-While opting for Salary will also mean CPP contributions become a cost to the Corporation. At the same time, it will result in benefits in future to you in the form of cash inflows at the time of retirement.
- EASE IN APPLYING FOR MORTGAGE-Having an employment income which is consistently credited to your bank account paves the way for qualifying for a mortgage in case of fund requirements.
- LOWER COST-Since the need to contribute to CPP is removed in case of dividends, it reduces corporate and personal costs. It increases the cash in hand.
- EASE OF DOING BUSINESS- In the owner-manager’s case, the corporation’s earnings can be transferred to a personal account by declaring a 100% dividend. This removes the hassles of registering for payroll with CRA(Canadian Revenue Agency) and remit source deductions.
- AVOIDING PAYROLL PENALTIES- Paying Dividends removes requirements of elaborate payroll remittance and filing procedures with CRA. Usually, payrolls have to be paid each month, and late payments come with stringent penalties in case of missed payments.
Dividends can be a more flexible option, and you are free to choose how you save for retirement. You also are not paying the higher personal income tax rate, helping you increase savings and more in-hand cash. Be mindful that you will have to be smart about saving for your retirement if you choose this option.
Taking a salary from the corporation requires you to open a payroll account with the CRA, make remittances and submit a T4 Information Return with CRA. On the other hand, taking a dividend from a corporation requires recording in a minute book and filing a T5 Information Return with CRA.
To conclude, the form of compensation you receive from your corporation should depend on the facts and circumstances of each case. It would help if you discussed this with your tax advisor to help you determine which option is best for you.
We, at Rav Bhatia CPA Professional Corporation, with a vast experience at hand, blend various tax planning structures and guide our clients into opting for the most beneficial course of action for their corporation.