Investment Strategies for Your Incorporated Small Business

One of the benefits of having an incorporated small business is that after paying yourself a salary or dividend any excess funds can be invested directly through the corporation. Since small businesses often cannot predict how their business will perform from year to year, the ability to retain funds in the corporation allows for a cushion to smooth out fluctuations in earnings, which can then be paid out as a salary or dividend in lower performing years. By keeping the funds in the corporation, the business is able to defer tax since the small business tax rate is usually lower than the personal tax rate. Some points to consider:

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1. Prior to leaving excess funds in the corporation, the business owner should take advantage of RRSP contribution room particularly if you are in a higher tax bracket. Since RRSP contributions are tax deductible and the taxes on income earned are deferred until withdrawal (likely at retirement) this results in a higher after tax income.

2. Income earned on investments in a corporation are taxed at a higher rate (around 50% depending on the province.)

3. New (complicated) rules were put into place by the liberal government that taxes earnings in excess of $50k per year at a higher rate by reducing the small business deduction available to small business owners. If you are earning more than $50k per year on your investment income, I recommend getting professional accounting/investment advice.

4. Investment vehicles for corporate investments are more restricted than personal investing and are generally more tax efficient

For the small business owner that has excess funds that are not required to be reinvested in the business, withdrawn as a salary or dividends for personal living expenses or that are not being used as RRSP contributions, below are some investment options:

Large banking institutions:

Perhaps the most popular small business corporate investment in Canada happens through the business owner's banking institution Eg TD, RBC, CIBC etc. Most have specialized investments and funds set up to assist the corporate owner. Note that fees are often higher with these institutions, however, it is certainly worth investigating.

Online banks:

There are numerous smaller which allow for corporate investment into savings accounts or GICs that offer higher interest rates than smaller banks Eg. Oaken and Tangerine. There if often more paperwork required to set up a corporate account than a personal account as most banks will ask for documents relating to the corporation that have usually have to be mailed in. As such this can be a somewhat time consuming process. However, if the goal is to maintain excess funds in an interest bearing account it can be worth it to put in a little extra time up front to get a better return.

Robo Advisors:

The popularity of robo advisors has skyrocketed in recent years due their simplicity and low fee structures. With a robo advisor, you provide details regarding your situation and risk tolerance and they customize an investment portfolio for you that usually consists of exchange traded funds (ETFs). For example if your risk levels are low, they will allocate a higher % of investment funds into bonds/money market vs equities. Examples of Canadian robo advisors include Wealth Simple and Questrade.

Real Estate:

As an alternative to investing in savings and investment funds, a corporation can also invest in real estate. It might make sense to purchase your office space instead of renting or perhaps invest in another property that provides rental income. The benefit of this is that although investment (passive) income will be taxed at approximately 50% in the corporation, the actual funds used for the down payment are taxed at lower corporate rates. Also all related expenses including mortgage interest, property taxes, utilities, insurance etc. are tax deductible. The corporation can either buy the property directly or set up a holding company and loan the funds to the new entity through an inter-corporate loan. (any investments that involves setting up a holdco should be discussed with a qualified professional as this might affect the active corporation ability to claim the capital gains exemptions among other tax implications). Real estate is a less liquid investment and as such should only be undertaken if funds are not required in the near term.

Although small business corporate investing is more restrictive than personal investing, there are still a number of available and customizable investment vehicles which can be a matter of just transferring excess funds on a regular basis or can be a little more involved but allow for higher returns. There is no reason to have funds in the corporation that are not earning some kind of return on investment.

Ronika Khanna is an accounting and finance professional who helps small businesses achieve their financial goals. She is the author of several books for small businesses and also provides financial consulting services.

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