Canada: Salary Vs. Dividend For Medical Professionals

For medical practitioners, the choice between salary or dividends is usually a conflicted one. The general sense is that the grass is greener on the other side. As tax rates change both federally and provincially, it's necessary to consider the pros and cons of each option, as well as other aspects of pay, such as retirement savings, in order to make sure the right strategy is implemented.

Here is a closer look at some of the key issues involved.

Tax

Theoretically, CRA tries to implement an integrated approach. When integration is perfectly executed, a dollar you earn for a corporation and pay out as salary should result in the same overall taxes as a dollar earned and taxed in a corporation and paid out by dividend. (The same should also apply to income you earn outside of a corporation.) However, with changes in provincial rates and federal rates, perfect integration rarely happens. It all depends on the province you live in. With a salary, you pay higher personal taxes, but you get a deduction  to your corporation, allowing you to pay lower corporate taxes. With dividends, you pay more corporate tax, but you pay lower personal tax, so theoretically the overall impact on your combined tax should be relatively neutral. But take Alberta, for example, where taxes on your salary are slightly lower than taxes for a dividend. When you factor in employer and employee CPP, however, the total cost of salary is greater than a dividend. This is why factors other than your tax rate should be considered when determining how you want to pay yourself.

CPP (Canada Pension Plan)

Technically, if you crunch the numbers, for owners paying both the employer and employee portion of CPP, the return on CPP (what you pay in versus what you get out) is not a good investment. But there are still some good reasons to contribute to CPP. If you are close to retirement and have been contributing to CPP throughout your career, it is probably best to continue to contribute, to maximize your CPP Pension in retirement. CPP can be a good way to diversify your retirement planning, providing you pension income separate from your other investments. Those who are disciplined may be better served investing elsewhere, though, to obtain a better return on investment.

RRSPs

If you are paid in dividends and you have RRSP contribution room, you can still make RRSP contributions, but unlike salary, dividends do not create additional room. The benefit of RRSP contributions is that you are less likely to access these funds before retirement as it is less accessible and has a well known tax implication. Again, RRSPs are another way to diversify your planning for retirement. If you have contribution room available and excess personal cash, it is a great way to minimize your personal taxes in any given year. That said, we usually wouldn't recommend drawing cash specifically to fund your RRSP if you are in a higher tax bracket.

In a sense, a professional corporation can serve the same function as your RRSP. If you can retain cash in your professional corporation, and invest in stocks, property or other investments, you're not paying personal taxes on the money used for the investment.  

Income splitting

Despite assumptions to the contrary, you can income split with salary, but only if the salary represents a fair value for the services that your spouse is providing. For example, those who provide bookkeeping, administrative duties and banking can be paid a nominal salary. However, dividends do not have any such limitation and is a safer route for income splitting. In Alberta, at the top tax rate, you can save up to $28,000 by income splitting with a spouse.

There have been rumours that CRA may remove this option — specifically for professional corporations — but this was not specifically addressed in the recent budget. Now that Alberta's top tax rate is up to 48% (at $300,000), the benefit of income splitting has increased substantially.

Making the choice

Anyone can choose to be paid in salary, dividends or a combination of both. In most cases, this decision is based on cash flow earned from income in your corporation, how diligent you are at managing your cash both personally and within your corporation, and your perspective on RRSPs and CPP. If you have inconsistent income from month to month, we usually suggest dividends. This doesn't commit you to a monthly payroll remittance which could have negative implications (because the penalty for missing a payroll remittance is 10% and that can get quite expensive). Dividends only require tax instalments to be made and interest penalties of 5% per annum, if missed. The downside of dividends, is that it can lead to surprises when taxes come due, especially if you haven't been diligent in tracking cash drawn and paying your required personal tax instalments.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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