How to Pay Yourself
Hello All,
As we approach the deadline to submit salary and dividend declarations, and in this ongoing series of tax related topics (until the end of tax season), I thought we might delve into the ways in which business owners pay themselves
The way in which you withdraw compensation from your business, and the tax implications, are different depending on whether you are a sole proprietor or an owner-manager of a corporation,
Sole Proprietors:
As a sole proprietor, you are simply an extension of your business i.e. there’s no legal separation between you and your business. This means:
You are taxed on the profits of your business rather than on money that you withdraw. Consequently, you don’t pay yourself a "salary". In other words, withdrawals aren’t tax-deductible business expenses.
The taxes that you do pay are on the profits which are equal to your total sales less your business related expenses. This is shown on schedule T2125 on your personal tax return.
In addition to income taxes, you are also required to
pay into the Canada (or Quebec) Pension Plan (CPP) which is mandatory for anyone who earns "active" income e.g. as an employee or self employed/small business. If you use tax software, this will automatically be calculated on your tax return.
Tips
Ensure that you claim all of the expenses that you are entitled to.
Have an accounting system - use a spreadsheet or accounting software.
Be prepared for your tax bill. Use a calculator to estimate how much you will owe in advance.
Corporation Owners
If you are the owner/manager of a corporation, you have more flexibility in how you pay yourself. You also have the option to leave funds in the corporation, thereby deferring how much tax you pay, personally.
Pay yourself a salary
Salaries, unlike dividends, are a tax-deductible business expense.
Since salaries are active income, there is a mandatory contribution to the CPP.
By virtue of being active income, you create RRSP contribution room which is the single best way to reduce your tax bill.
There is more administration with salaries as it requires regular (usually monthly) remittances to the CRA and preparation of T4s at the end of the year.
Take dividends
Dividends are paid from after-tax corporate profits i.e. they are not tax deductible.
To compensate for them not being tax deductible, you get a dividend tax credit on your personal taxes.
Since dividends are passive income, no CPP contributions are required. It also does not create RRSP contribution room.
Administration is much simpler as you only have to prepare a T5 by the deadline of February 28th (for the previous year) reflecting how much you withdrew in dividends.
Which Option is Best?
As with almost all things tax, it depends on your situation. A salary is best if you want CPP benefits and RRSP contribution room. Dividends are more flexible and require less paperwork.
In terms of the amount of personal income taxes that you will pay, once you remove the CPP contributions, there isn't a significant difference. It is important to keep in mind that, when comparing personal taxes payable on salary vs dividends, you should add the additional corporate taxes payable if you take dividends.
Wishing everyone an excellent weekend!
Ronika
P.S. If you’re looking for a deeper dive into how dividends work, my book, Small Business and Your Dividends, provides a simple breakdown along with step-by-step instructions for filing dividend slips
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Relevant Blog Posts
A couple of blog posts (with links to other blog posts) relating to dividends and salary vs dividends.
Guidance on preparing the Dividend T5 Slips
Relevant/Latest videos
How to Navigate CRA My Business Account
What Every Sole Proprietor Needs to Know About Their Taxes
How to Review Your Balance Sheet at Year End in QBO
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articles of Interest
Products impacted by tariffs :
There has been a great deal of talk and uncertainty about the Trump tariffs in the last couple of weeks. This list from CRA specifies the exact goods that would impacted if tariffs are in fact imposed. This article from BDC provides some more specifics on how it will potentially impact your business.
Capital gains tax increase delayed until 2026
There has also been a great deal of discussion and uncertainty around the capital gains tax changes from the 2024 budget. Given the cessation of parliament and impending nomination of a new liberal leader, this has now been delayed and will likely be reversed completely.
GST/HST "Holiday" ending but restaurants want it made permanent:
The GST/HST tax break will end on February 15th. Restaurants have seen a significant boost in sales and are lobbying to make it permanent.
Charitable Donations Extension
Due to the postal strike which impacted charities ability to send out year end donation drives, CRA has extended the deadline for individuals to claim eligible donations made up to February 28 on their 2024 personal income tax return. They can also still claim them on their 2025 return, or during the normal five-year carryforward period.
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