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Last updated: May 19 2015
New Twist on Owner-Manager Compensation Planning
Financial Planners and Tax Specialists, together with Owner-Managers of Canadian Controlled Private Corporations (CCPCs) will need to review the compensation and retirement planning arrangements currently in place to ensure they are not eroded by recent federal tax changes.
The Integration Theory holds that the corporation and the shareholder combined will pay the same amount of income tax as if the shareholder had earned the income in the first place. Changes to corporate tax rates and, by extension, the tax treatment of dividends, therefore become a double-edged sword. On the one side are the benefits to the corporation, which will now retain more income due to the lower tax rates proposed to begin in 2016, allowing profits to be re-invested to promote job growth, and corporate reinvestment.
On the other side, the offsetting reduction in the dividend tax credit results in a higher effective tax rate on dividend income; of critical importance to business owners who must fund their own retirements without income splitting until age 65 in traditional private savings vehicles like RRSPs. The end result is a potential shift of the tax burden from the corporation to the individual shareholder at a difficult stage in the lifecycle.
A Ways and Means motion was tabled in Parliament May 4, 2015, outlining the treatment of “Other than Eligible” dividends due to the rate reduction. The changes appear below:
Federal Dividend Tax Credit Adjustment for Other than Eligible Dividends
| Calendar Year | 2015 | 2016 | 2017 | 2018 | 2019 |
| Small Business Tax Rate | 11% | 10.5% | 10% | 9.5% | 9% |
| Gross-up | 18% | 17% | 17% | 16% | 15% |
| Dividend Tax Credit* | 11% | 10.5% | 10% | 9.5% | 9% |
* Dividend Tax Credit based on grossed-up dividends
Here’s an example of the effects of the change:
Anton retired from his small business in 2014 at age 65. His income now consists of Old Age Security, and $1,000 per month CPP pension as well as $50,000 dividends from his corporation. He lives in BC. Assuming an inflation (and indexation) rate of 2% applies to OAS, CPP, tax brackets and clawback zones, here's a projection of how his income and taxes will look over the next 5 years.
| Calendar Year | 2015 | 2016 | 2017 | 2018 | 2019 |
| OAS | $6,810 | $6,946 | $7,085 | $7,227 | $7,371 |
| CPP | $10,000 | $10,200 | $10,404 | $10,612 | $10,824 |
| Small Business Dividends | $50,000 | $50,000 | $50,000 | $50,000 | $50,000 |
| Dividend Gross-up | $9,000 | $8,500 | $8,500 | $8,000 | $7,500 |
| Taxable Income | $75,810 | $75,646 | $75,959 | $75,839 | $75,695 |
| Federal Tax | $11,571 | $11,488 | $11,494 | $11,370 | $11,232 |
| Plus: OAS Clawback | $633 | $207 | $31 | $0 | $0 |
| Less: Federal Dividend Tax Credit | $6,500 | $6,143 | $5,850 | $5,510 | $5,175 |
| BC Tax | $4,300 | $4,276 | $4,283 | $4,245 | $4,202 |
| Less: BC Dividend Tax Credit | $1,530 | $1,445 | $1,445 | $1,360 | $1,275 |
| Total Taxes | $8,474 | $8,383 | $8,513 | $8,747 | $8.984 |
| Income After Tax | $58,336 | $58,763 | $58,976 | $59,094 | $59,211 |
For Anton, the bottom line is that his after-tax income will increase but not as quickly as it would have had the taxation of dividends not been changed. The decreased gross-up means his clawback of OAS is reduced but the reduced dividend tax credits result in a slightly higher tax rate on the dividend income. However, if the reduced taxes on the corporation results in higher dividends, he could be better off under the new system.
The end result? Planning for wealth retention, whether individually or within a corporate structure, is required. That’s a good reason to take the Owner-Manager Compensation Planning and Tax Efficient Retirement Income Planning courses from Knowledge Bureau. A discussion on the planning issues will also take place at the Distinguished Advisor Workshops being held in June in Winnipeg, Calgary, Vancouver, and Toronto.
