December 4, 2013 0 comments

Increase in Effective Tax Rate for Non-Eligible Dividends

Starting in 2014 the Canada Revenue Agency (CRA) has changed the way that non-eligible dividends are taxed.  This change will effectively increase the tax rate for non-eligible dividends.  This will cause business owners to re-evaluate the way in which they draw income from their business (dividends vs. Salary).  Let’s look at what non-eligible dividends are, the change to how they are taxed, and how this will affect the tax planning strategies of the business owner.

Non-eligible dividends are dividends that are paid out on corporate income that was earned under the small business deduction.   Eligible dividends are paid out on corporate income that was earned while paying the high tax rate (non-small business deduction), but eligible dividends will not be the topic of this blog post.

In an attempt to have the same amount of tax paid whether a business owner takes a dividend or salary, the CRA has put a specific mechanism in place to account for the corporate tax that has been paid on income prior to the dividend being paid out.  This mechanism is made up of a dividend gross up and a dividend tax credit.  The dividend gross up increases the amount of the dividend, while the dividend tax credit reduces the tax owing on the dividend.

Starting in 2014 the CRA is reducing the dividend gross up on non-eligible dividends from 25% to 18% and reducing the dividend tax credit from 16.67% to 13% of the actual dividend.  These changes to the gross up and tax credit increase the effective tax rate on non-eligible dividends.  The following are the effective tax rates before (2013) and after (2014) the change for British Columbia:

 

2014   Taxable Income	Non-Eligible   Dividends Effective Rate	2013   Taxable income	Non-Eligible   Dividends Effective Rate
First $37,606	7.61%	First $37,568	4.16%
From $37,606 to $43,953	10.73%	From $37,568 to $43,561	7.46%
From $43,953 to $75,213	18.99%	From $43,561 to $75,138	16.21%
From $75,213 to $86,354	22.29%	From $75,138 to $86,268	19.71%
From $86,354 to $87,907	24.40%	From $86,268 to $87,123	21.95%
From $87,907 to $104,858	29.12%	From $87,123 to $104,754	26.95%
From $104,858 to $136,270	31.97%	From $104,754 to $135,054	29.96%
From $136,270 to $150,000	35.51%	Above $135,054	33.71%
Above $150,000	37.98%

*note – These are the effective tax rates of the actual dividend, not the grossed up amount.  The calculations to arrive at these percentages are complex and have been left out; the above has been simplified for illustration purposes.

 

As you can see from the above table, the effective tax rate on non-eligible dividends has gone up about 2-3% across the board.  This may not seem like a significant increase but when tax planning, every percentage point counts.  In 2013 and prior years business owners would often opt for dividends in order to save a few percentage points in tax and to avoid making CPP contributions.  Now that the few percentage points of tax are no longer there, business owners now must decide whether the CPP contribution savings is worth the lack of CPP pension income at retirement and the lack of RRSP room that can be created with a salary.

When deciding between salary and dividend, there are many considerations such as tax savings, CPP, RRSPs, private health services plans, and other factors.  There is no correct strategy that works for everyone.  In each specific case you must look at all factors together to determine what the best strategy is for you.  The increase in the effective eligible dividend rate will no doubt cause business owners to re-evaluate how they draw money from their company.

If you are looking for some assistance in evaluating whether you should be drawing a salary or dividend from your company please contact us at steve@wattsca.ca , 604 510-0156, or visit our website at https://wattsca.ca for more information.

 

 

Disclaimer: The information in the blog is for general information only and is not intended to be a substitute for professional advice.  Each person’s situation is unique, and a designated professional accountant can assist you in using the information on this blog to your best advantage.  The author of this blog strives, but does not guarantee, to provide information which is current and accurate.  Due to the nature of the information, it should not be relied upon for decision making without talking to a designated professional accountant.  By obtaining information from this blog, you fully release Watts Advisors Ltd., Chartered Accountants of any liability that may arise from using this information.