10 key decisions for business owners
Key decision 2 – How can you reduce taxes?
Many business owners have substantial personal assets invested in their business. This can have significant implications, not only for you and your business but also for your family’s financial security.
To protect your investment, both business and personal, your business strategy should include carefully structured tax-planning components to ensure you have organized your assets in the most tax-effective manner and utilized the tax-planning strategies available to you.
Personal tax planning
There are several income-splitting strategies available to owners of private corporations in Canada that may benefit you and your family. They include:
Income splitting by paying a salary to family members
Consider income splitting with lower-income family members by employing them in the corporation and paying them a reasonable salary based on the services they perform. The salary they receive will also create Registered Retirement Savings Plan (RRSP) contribution room for them and generate CPP/ QPP pensionable earnings. Note that the tax rules provide a disincentive to paying a salary or bonus that exceeds the value of the services rendered.
Income splitting by paying dividends to adult family members
If you have an active corporation, you may be able to transfer some or all of the future growth of the business to the next generation of your family using an estate freeze with a family trust. This common business succession strategy allows you to split income by paying dividends from the corporation to your spouse and adult children – more than $30,000 in tax-free dividends if they have no other income, depending on the province where they live.
Multiplying the capital gains exemption
It is possible to “multiply” the capital gains exemption available to you and your family on the sale of the qualifying shares of your business. This could significantly increase the family’s after-tax assets following the sale. One way to do this is by having your operating company owned by a family trust with your family members as beneficiaries of the trust. When you sell the qualifying shares owned by the trust, the resulting capital gains can be allocated to each beneficiary and they can each claim their capital gains exemption.
Tax planning for your business
If you’re the owner of a private Canadian corporation earning active business income, consider whether the following strategies would work for your business:
Maintain the status of your corporation as a “qualifying small-business corporation”
By maintaining your operating company’s status as a qualifying small business corporation (QSBC), when you eventually sell its shares you may be able to take advantage of the capital gains exemption. This exemption is available to individual shareholders of active Canadian private corporations and can represent a sizable tax saving.
Earning Canadian dividend income in a corporation
Canadian source dividends from corporations that are not controlled by the shareholder corporation are subject to a flat refundable corporate tax of 33.3%. If you are earning Canadian public company dividends in a corporation, then consider paying out an amount equal to the dividend in the same year to avoid prepaying this higher corporate tax compared to the lower tax rate on eligible dividends if earned personally.
Life insurance as a tax-exempt investment in the corporation
If you have surplus funds accumulating in your corporation, you may be taxed at a higher rate on the investment income earned in the corporation than if you earned this income personally (depending on your province). You may also face double taxation on the assets within the corporation on death. Tax planning solutions are available that may help you address this problem.
Scott Donovan, B.A. | Investment Advisor | RBC Dominion Securities Inc. |
T. 519-747-0133 | F. 519-747-1808 | 95 King Street South, 3rd Floor | Waterloo, ON N2J 5A2 |
This article is supplied by Scott Donovan, an Investment Advisor with RBC Dominion Securities Inc. Member – Canadian Investor Protection Fund. This article is for information purposes only. Please consult with a professional advisor before taking any action based on information in this article.