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ALWAYS CONSULT YOUR INVESTMENT PROFESSIONAL BEFORE MAKING ANY INVESTMENT DECISION

August 10, 2018 | The corp

A best-selling Canadian author of 14 books on economic trends, real estate, the financial crisis, personal finance strategies, taxation and politics. Nationally-known speaker and lecturer on macroeconomics, the housing market and investment techniques. He is a licensed Investment Advisor with a fee-based, no-commission Toronto-based practice serving clients across Canada.

A few offhand comments here yesterday upset a bunch of people. This is a good thing. Sometimes conventional wisdom is unwise. And so (I have found in my time) are a slew of accountants.

This post is about being self-employed, having a corporation, taxation, the Trudeau government’s hate-on for you, and how you should pay yourself. If you’d rather read about dogs and what a bunch of scuzzbuckets Re/Max just proved to be, come back on Sunday.

Yesterday, in the course of dissing Ashley the debt-loving lady doc in Burnaby, I mentioned that professionals with corps often make the classic mistake of taking income only in dividends and amassing funds inside their personal companies. “I was caught off-guard by your comment regarding dividends vs salary/pay.  Can you elaborate?,” writes a famous and wealthy medical entrepreneur who nonetheless comes here. “I was of the mind that if I can keep more money in the corp, it can be invested before it’s taxed at a higher rate, and then paid out of the corp in the future when I’m retired.”

This is what so many accountants tell you, simplistically and without spelling out the downsides. It’s also worth remembering that these numbers guys are paid more with every extra complexity added to your business structure. This week I’m helping rescue a poor guy from the clutches of a national accounting firm. He scored a $2 million windfall working for a startup, sought accounting help, and ended up with a holdco, an opco, a family trust and an investment corp within the trust. Oh, and $25,000 in annual fees. Yikes.

Well, first, only incorporate if it makes financial sense. A gross income of about $500,000 justifies incorporation and paying the annual reporting fees, but with less than that coming in seriously consider a sole proprietorship instead. It costs nothing to set up, takes 10 minutes and allows you to claim the same expenses. You can use TurboTax to file taxes and save yourself three grand a year.

But some people have to incorporate – like IT guys whose clients demand it, or doctors/lawyers working in certain capacities or structures, paying for staff, or simply billing enough to benefit from operating through a corp. The big myth is that if you pay yourself in dividends rather than salary, you’re gaming the system.

Nope. You’re not.

When corps make income, they pay tax. The money left over can be taken by the shareholder in the form of a dividend. S/he then gets to claim the dividend tax credit and appears to pay less tax than if the same funds has been taken as salary. But when you add the corporate and personal tax paid (both by you) it’s the same as if you’d just claimed salary. Remember that the corp can deduct all salary from income, possibly reducing its taxes to zero.

Moreover, taking a dividend means no RRSP room. That sucks. Entrepreneurs (including docs and lawyers) don’t have corporate pensions, defined-benefit pensions, profit-sharing or group DC plans. They need RRSPs to grow money tax-free, allowing retirement income to be controlled. Taking a salary can earn you over $26,000 in room, fully deductible. Do not forego this incredible shelter.

Of course collecting dividends also robs you of CPP benefits. Yes, you don’t make premium payments (which are double) but consider that between age 60 and 85 the government is willing to send you almost a quarter million dollars in CPP payments. Why toss that? Additionally, taking a salary instead of dividends is much more credit-friendly. Bankers are straight arrows. They drool over T4s. Chances of scoring a loan or mortgage augment with those slips in hand.

But the biggest reason to fear amassing money in a corporation by just sipping off dividends is political. We’ve already tasted this. I have no doubt there’s more to come.

The government does not want anyone using a professional corporation to pay less tax than the guy working for a salary in the muffler bay of Canadian Tire. This is why income-sprinkling is now illegal, even for husband-wife entrepreneurs. It’s why Bill Morneau made that assault last summer on pizza shop owners, plumbers, anaesthesiologists and every other self-employed person who routinely builds up less-taxed money in their corporation to drain off later as retirement income.

He backed off a little amid a storm of protest, telegraphed what will happen in the future with passive income. That’s the money corporation owners earn on their retained earnings. Starting next year business owners can make up to $50,000 in “adjusted aggregate investment income” which will be taxed at the normal rate. Above that, pay more.

Here’s what Morneau said when he made the change:

“The intent of the new rules will be to target high-income individuals who can benefit under current rules from an unlimited, personal, tax-preferred savings account via their corporation, far beyond the pension, RRSP and TFSA limits available to other Canadians. This is inherently unfair, and the Government is committed to fixing it.”

That’s about as clear as you can get. These guys are not finished. The precedent has been set. Passive income is in the crosshairs. Taxes could exceed 70%. You’ve been warned.

So, why roll the dice? Take a salary sufficient to max RRSP room. Stuff your TFSA, your spouse’s TFSA and those of your adult children. Income-split with a spousal plan and a joint non-registered investment account. Take dividends sufficient to lower your corporate tax profile and be careful not to leave too much in there.

Now, take this blog to your accountant. See what happens.

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August 10th, 2018

Posted In: The Greater Fool

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