If you are a small business owner operating through a corporation, you probably wonder whether paying yourself a salary vs. dividends is better from a tax standpoint. In this post, we get to the bottom of this question so you have confidence that you are choosing the right compensation strategy to build your wealth. First, we walk you through what salary and dividends are. Then, we talk about the tax differences.

Salary vs. Dividends – Quick Summary

If your time is short, here’s the coles notes version. But if you have time, please continue to read below where we explain the points below in more detail.

Salary	Dividends
Need to remit CPP	No CPP on dividends
Corporation gets to deduct salary	Dividends are with after corporate money
Lower corporate tax but higher personal tax	Higher corporate tax but lower personal tax
Generates RRSP Room	Does not generate RRSP Room
Total combined income tax (corporate + personal) is roughly same as dividends but need to opt into CPP	Total combined income tax (corporate + personal) is roughly same as dividends but do not need to opt into CPP
Salary is required if you have an Private Health Services Plan or a Health Spending Account in your corporation CPP	If you only receive dividends, you may not be able to take advantage of Health Spending Accounts in your corporation. CPP
Need to withhold and remit personal income tax and CPP at source on monthly basis as you draw	Pay personal income tax on dividends via quarterly instalments or with your tax return (around April of the following year)
The government tends to view salaries more favourably. For example, during COVID-19, the government extended programs like the Wage Subsidy and CEBA Loans only to companies that paid salary	The government views dividends as “passive income” that only wealthy people earn and tend not to extend benefits unless they get lobbied for it
You can only deduct eligible moving expenses against salary	Cannot deduct moving expenses against dividend income
You can only deduct child care expenses against salary. The lower-income spouse should have either salary or business income to claim child care expenses	Cannot deduct child care expenses against dividend income

Salary

What is a Salary?

• Remember that your corporation is a separate legal person from you.
• The corporation can pay you for services that you perform on behalf of the corporation. For example, suppose you perform services to customers through a corporation. In that case, you are working for the corporation. The corporation can pay you a salary for this service.
• We generally suggest getting a simple employment contract drafted to document the employer-employee relationship between you and your corporation.
• Suppose you own the voting shares of your company. In that case, the corporation can generally pay any amount as a salary to you. The CRA has not challenged this in the past. CRA generally takes the position that it will allow a company to deduct an unlimited salary or bonus paid to an owner manager actively involved in the business.
• The corporation can deduct the salary in computing its taxable income.

CRA Payroll Tax Remittances

• Suppose you decide to take out a salary of $50,000 in 2022. Your net pay will not equal $50,000. The corporation will need to remit payroll taxes to the CRA.
• We call this “doing your payroll”.
• The corporation would need to remit the following to CRA when it pays salaries:
  • Employer CPP
  • Employee CPP
  • Income Taxes
• The CPP rates change every year. You can find them here.
• For example, if you receive a salary of $50,000, the CPP is calculated as follows:
  • CPP in 2022 = ($50,000-3,500) x 5.70% = $2,650.50
• The employer (i.e., your corporation) must match the CPP, so the corporation must pay $5,301 ($2,650.50 x 2) to the CRA. $2,650.50 is withheld from your pay, and the corporation has to fork up another $2,650.50 to match the employee contribution.
• The CPP maxes out when the salary is $64,900 (in 2022). The maximum employer CPP contribution is $3,499.80. The maximum self-employed CPP is $6,999.60 ($3,499.80 x 2 for employer and employee portions).
• On top of CPP, the professional corporation will need to deduct about $7,400 in income taxes.
• So the net salary in your pocket will be $39,949.50 ($50,000 – 2,650.50 –  7,400).

Payroll Calculators and Tools

• We recommend getting your accountant or bookkeeper to do your payroll calculations. They should give you a monthly schedule that shows your gross salary and CRA remittances.
• But if you choose to do it yourself, we recommend using the CRA Payroll Deductions Calculator.
• Suppose you have multiple employees in your company. If you need a hand, we can help! In that case, we suggest getting your bookkeeper or accountant to handle payroll from start to finish, including payments and remittances to the CRA. The penalties for late remittances could add up to 20%, so we suggest you delegate it to your accountant or bookkeeper unless you have the time to devote to this.

Paying Payroll Remittance to CRA

• Don’t forget; you need to make monthly CPP and income tax remittance payments to CRA.
• The due date is normally the 15^th of the month following the salary. So if you pay a salary in January 2022, you need to remit the payroll taxes to CRA by February 15, 2022.
• Penalties could be 10% for failing to remit on time and up to 20% if you’re late more than once.
• This is what we suggest:
  • Step 1: Make sure you have a payroll account (the “RP Account“) with CRA. If not, ask your accountant to register you for one.
  • Step 2: Set up recurring payments through your bank.
    • Sign in to your financial institution’s online banking service for businesses.
    • Under “Add a payee” look for an option such as:
      • Federal Payroll Deductions – Regular/Quarterly – EMPTX – (PD7A)
    • Enter your 15-digit business number as your CRA account number (usually ending in RP0001)
    • Make sure the number is accurate so that the CRA can apply your payment correctly.

Preparing the T4 Slip

• By the end of February of the following year, the corporation must file T4 slips and a summary with the CRA.
• Again, we highly recommend getting your accountant or bookkeeper to do this task. We can always help!

How can we help?

• Payroll could be time-consuming and lots to keep up with.
• We help our monthly subscribing clients with all the above.We first help you decide whether to take salary or dividends and how much.
• We give you a monthly schedule to follow for you and your spouse, so you know how much to remit to CRA.
•  We even help with facilitating payments to your employees for a small additional monthly fee.
• Once everything is done, we prepare a T4 slip.

Dividends

What is a dividend?

• A dividend is when the corporation distributes some of its after-tax earnings to its shareholders.
• The company’s directors determine the amount. See this article to see who are “Directors.”
• You can choose to pay out any amount as a dividend so long as the company won’t go bankrupt.
• For example, if you have a big bank loan and pay a dividend, there will not be enough assets (money, real estate, investments, etc.) to repay the loan. Under corporate law, you cannot declare a dividend.
• There are different types of dividends solely for tax purposes: eligible dividends, non-eligible dividends, and capital dividends.
• Eligible dividends and non-eligible dividends are taxable dividends. This means that when you receive the dividends, you need to pay personal tax on them.
• The tax rate on the eligible dividend is lower than non-eligible dividends.
• Capital dividends are tax-free. You do not need to pay personal tax on them.
• Capital dividends are paid from the capital dividend account (“CDA“). The capital dividend account is equal to 50% of your capital gains. Your corporation can pay 50% of capital gains as a tax-free dividend. This is because only 50% of a capital gain is taxed, so the corporation can pay the non-taxable portion (i.e., the remaining 50%) as a tax-free capital dividend.
• You should work with your accountant, who has a solid background in tax, to see which types of dividends your corporation can pay out.

Preparing the T5 Slip

• Your corporation needs to file the T5 slip and summary with the CRA to report dividends paid from January 1^st to December 31^st in a given year.
• The deadline to file is by the end of February of the following year.
• If your company paid dividends in 2021, the corporation must file a T5 with the CRA by February 28, 2022. 

Salary vs. Dividends

The biggest difference between salary vs. dividends are:

• Unlike salary, you do not need to remit CPP or taxes on dividends at the source. Instead, you pay the personal income tax on dividends directly or as instalments (see above).
• A corporation pays dividends using the corporation’s after-tax money. First, the corporation pays the corporate tax and distributes some of the remaining money as dividends. Because the corporation has paid some level of tax on this income, when you receive the dividends, you pay tax on such dividends at a lower rate than if you were to receive a salary.
• Only salary generates RRSP room.
• You or your spouse can only deduct child care expenses on your personal tax return, only if you have a salary or other “earned income.” Dividends do not qualify.
• When the corporation pays a salary, it gets to deduct it when computing its taxable income. This means that part of the income paid as a salary is not taxed in the corporation.
• When you combine the corporate and personal tax of a dividend, they are very close to the total personal tax on a salary.
• We demonstrate this in the example below.
• You may need to pay a salary if you have a health spending account in your corporation. Click here to read more.

Example – Salary vs. Dividends

• For example, suppose Ross runs a consulting business through a corporation.
• Suppose the corporation earns $100,000 and has a corporate tax rate of 12.2% (Ontario).
• Ross’s marginal personal tax rate is 30%.
• Case A: Ross wishes to pull all the corporation’s after-tax funds as a salary.  
• Case B: Ross wishes to pull all the corporation’s after-tax funds as a dividend. 

	Salary	Dividend
Corporation’s income	$100,000	$100,000
Less: Salary	(100,000)	n/a
Corporation’s taxable income	$0	$100,000
Corporate tax (12.2%)	$0	($12,200)
After-tax income	$100,000	$87,500
Ross’s Income	$100,000	$87,500
Dividend Gross up	0	12,200
Taxable income	$100,000	$100,000
Personal Tax	(40,000)	(40,000)
Dividend tax credit	0	12,200
Net Personal Tax	$40,000	$27,800
Total Personal + Corporate tax	$40,000	$40,000
After-tax income	$60,000	$60,000
RRSP Room (18% of salary or Maximum of $30,780)	$18,000	$0
CPP Employer + Employee	$7,000	$0

• Note how dividends and salary have the same income tax.
• The dividend gross-up and dividend tax credit are there to ensure you get credit for the corporate taxes already paid on the $100,000 of earnings so that you don’t get taxed twice on the same income.
• Also, the above example doesn’t show this. But there would be a $7,000 CPP on Salary and no CPP on dividends.
• The Fraser Institute published an informative article on the rates of return you can expect from your CPP contributions. They state that Canadian workers retiring after 2036 (people born in 1972 or after) can expect a rate of return of 2.1% on their CPP contributions.

Salary vs. Dividends to Family Members

Dividends to Family Members

Now that you know the difference between salary vs. dividends, may consider paying salary vs. dividends to your family members. We discuss this in detail below.

• If your spouse or other family members own shares in your corporation, you may consider paying a dividend to them to use their marginal tax brackets to save taxes. This strategy is called “income splitting.”
• Before 2018, it was much easier to split income with family members by paying them dividends from the corporation.
• Since 2018, the Tax on split income (“TOSI“) rules generally made it disadvantageous to pay dividends to family members unless they were involved in the business.
• The TOSI rules tax dividends paid to family members at the top tax rate (53.53% in Ontario), making income splitting using dividends ineffective.
• There are exceptions to the TOSI rules. We will not discuss these exceptions in this article as it is complex. But one of the common exemption is that if a family member works in the business at least an average of 20 hours per week.
• If your spouse or other family members work at least 20 hours per week in your business, the corporation can pay a dividend to your spouse or family member to use up his or her marginal tax bracket.

Salary to family members

• Since the TOSI rules target dividends and not salaries, small business owners may consider having the corporation pay a salary to their spouse.
• If you plan to pay salary to family members, in order for the salary to be deductible to the company, the tax rules require that the salary be reasonable under the circumstances.
• While the CRA will generally allow a company to deduct an unlimited salary paid to an owner actively involved in the business, it has not made such a concession if the corporation pays salary to a family member who is not an owner manager of the business.
• A salary will also result in RRSP room for the spouse, which could be a good way to plan for retirement.
• Also, a salary will allow the lower-income spouse to deduct childcare expenses. Note that you can only deduct childcare expenses against salary or business income. Dividends don’t qualify

If you like to learn more about professional corporations, please feel free to check out our Ultimate Corporate Tax Guide For Small Business Owners.