How do tax planning and dividends work together?
A T5, statement of investment income, is a tax slip that records the various types of investment income taxpayers have to report on their income tax returns. Investment income includes eligible and non-eligible dividends, interest, other income, foreign income and foreign tax paid. For most of our corporate clients, the slip generally only includes dividends.
There are several benefits of doing tax planning before issuing a T5 slip.
- Income splitting: where income that would normally be taxed by one spouse can be split between both spouses utilizing the tax brackets. The benefit of issuing dividends to both spouses is to lower the overall tax charge by moving income from a spouse in a higher tax bracket to a spouse in a lower tax bracket. Dividends can be issued to both spouses as long as both are shareholders of the company. By reviewing both you and your spouse’s income for the year prior to issuing dividends, we can identify income splitting opportunities.
- You may have a debit balance in your shareholder loan account if you haveborrowed more money than you have injected into a corporation. Under ITA 15(2.6) if the shareholder repays this loan within one year after the end of the taxation year of the corporation, it will not be assessed as income. If the loan is not repaid, it will be treated as income subject to tax, as well as any interest and penalty charged on the unpaid taxes. In order to avoid this, dividends could be declared to cover the shareholder loan debit balance. By reviewing your shareholder loan balance we can identify any dividends that may need to be declared to cover debit balances.
- Each person has non-refundable tax credits that can reduce federal or provincial taxes payable. These credits cannot be refunded if unused. If they are greater than your taxes payable, they cannot be carried forward. If a person does not have enough taxes payable to use up these credits, dividends could be declared to use up any excess credits without the taxpayer incurring more taxes. In essence, the taxpayer could receive tax-free income. We can review your total income for the tax year in order to determine if additional income can be received tax-free.
To discuss your T5 tax planning opportunities, please contact us for more help.Download a copy of this issue here