Salary or dividends: paying yourself from a corporation

What is the difference between salary and dividends?

Salary pays you for work; a dividend pays you because you own shares. A corporation can pay you both, but each payment needs its own records and tax treatment. The CRA describes a dividend as a return on a shareholder's investment, not payment for services (CRA: shareholder benefits).

A salary deduction is subject to the ordinary business-expense and reasonableness rules (Income Tax Act, section 18 and section 67). For personal tax, you report more dividend income than the cash received (the gross-up), then claim a dividend tax credit that reflects corporate tax (CRA: taxable dividends). The corporation must identify whether a taxable dividend is eligible or non-eligible; see how corporations are taxed.

A private corporation with enough in its capital dividend account can instead elect a capital dividend that is tax-free to a Canadian-resident owner (CRA: capital dividends). Its authorized officer signs Form T2054, which the corporation files by the earlier of the payable date and first payment (CRA: Form T2054); see tax-free dividend income.

Which costs less tax in total?

Neither salary nor dividends always costs less. Compare the corporation's tax, the owner's income tax and both sides of payroll contributions on the same amount of business profit, in the province that taxes each return (CRA: dividend tax integration).

Salary generally lowers corporate taxable income, while the owner reports employment income. Dividends leave the profit taxable in the corporation, then tax the owner with a gross-up and credit. That system aims to bring the combined results close, but the actual gap depends on the provincial rates, the corporate rate the profit actually faced, other personal income, and when the profit is paid out. If profit stays in the company, the personal dividend tax has not yet arisen; that timing also matters. For the corporate-rate and dividend-type rules, see how corporations are taxed.

The gross-up can raise net income used for benefits even where the dividend tax credit reduces tax. It may reduce a family's Canada child benefit or trigger an Old Age Security repayment.

Do I pay CPP or EI on salary or dividends?

Salary from pensionable employment generally attracts employee and employer CPP contributions; dividends do not. Employment is generally not insurable when the employee controls more than 40% of the corporation's voting shares, so that owner's salary normally has no EI premiums or EI coverage from that employment. Salary can build future CPP benefits, while dividends do not. CPP applies to pensionable employment earnings, and the employer normally matches the employee contribution (CRA: CPP contributions).

An employee aged 65 to 69 receiving a CPP or QPP retirement pension can elect to stop CPP contributions. The employee signs Form CPT30, gives a copy to every employer and sends the original to the CRA; it takes effect on the first day of the month after the employer receives the copy (CRA: Form CPT30).

EI is a separate test. In Quebec, that EI exclusion does not remove QPIP premiums on an employee shareholder's salary (Revenu Québec: QPIP premiums). To receive self-employed EI special benefits, a controlling shareholder must be a Canadian citizen or permanent resident, meet the other conditions, and have an agreement active for at least 12 months; premiums are paid on the personal return (Service Canada: eligibility). In Quebec, QPIP handles parental benefits (Service Canada: benefits). A smaller shareholding, family relationship or unusual work arrangement needs its own insurability check; the CRA can give a ruling (CRA: pensionable and insurable employment). Dividends are not employment earnings and do not create EI coverage.

How do salary and dividends affect RRSP room?

Salary is generally earned income for RRSP purposes; dividends generally are not. The CRA's calculation adds the lesser of 18% of the previous year's earned income and the annual RRSP limit, then adjusts for unused room and pension amounts (CRA: earned income; CRA: RRSP deduction limit). The $33,810 annual cap applies to new room for this page's tax year, based on the preceding year's earnings; your total available room may differ (CRA: annual limits).

Salary paid this year normally creates new room for next year, subject to that year's limit. A dividend-only owner may still have room from earlier years, another job or self-employment; business and rental losses can reduce new room. Check the latest notice of assessment before contributing (CRA: earned income). After the year you turn 71, you generally cannot contribute to your own RRSP, but may be able to contribute to a younger spouse's or partner's RRSP (CRA: contribution age).

With no other earned income or adjustments, salary of $196,612 this year reaches next year's full new RRSP room (its annual limit divided by 18%). See salary for RRSP room and CPP.

Can I pay myself a mix of salary and dividends?

Yes. A working shareholder can receive salary for work and dividends on shares, provided the corporation records and reports each correctly (CRA: shareholder benefits). A mix can provide pensionable earnings and RRSP room while leaving some pay outside payroll, but there is no universal split.

Before setting amounts, compare your last T2, the corporation's year-end and available cash, your personal income, prior RRSP room, and whether you want CPP coverage. Record the salary through payroll and approve dividends under the share terms. Money already withdrawn without either treatment needs a separate review under shareholder loans. If several owners hold the same share class, review their dividend rights before declaring one.

If the corporation owes income tax, a non-arm's-length owner who receives a dividend can be personally liable under section 160 for tax from that year or earlier, up to the dividend's value. CRA can assess that liability at any time.

Can my corporation declare a year-end bonus and pay it later?

Yes, but an accrued bonus must actually be paid within 180 days after the corporation's tax year-end to remain an expense of that year. If it is still unpaid on that day, section 78(4) moves the expense to the year of payment (Income Tax Act, section 78(4)).

Document the bonus obligation and payment date. When the bonus is paid, treat it as payroll, with applicable income-tax and pension contributions withheld and remitted; a bookkeeping entry alone does not settle the payroll obligation. Report the bonus on the T4 for the calendar year it is paid, even if the corporation deducts it in an earlier tax year (CRA: bonuses and irregular payments; CRA: T4 reporting year). See running payroll for remittance steps.

What does the corporation file for salary or dividends?

Salary goes through payroll and generally a T4; a taxable dividend to an individual is generally reported on a T5. The corporation also reflects its salary expense or after-tax distribution in its accounts and T2 workpapers (CRA: T4 guide; CRA: T5 guide).

Directors serving when payroll income tax should be withheld or remitted can be personally liable with the corporation under section 227.1, subject to its collection conditions and due diligence defence. Recovery proceedings must start within two years after a director last ceased serving.

The federal T4 and T5 filing deadlines are both the last day of February after the calendar year, with the CRA's next-business-day rule if the date falls on a weekend or recognized holiday (CRA: information-return due dates). Use running payroll for the setup and remittance schedule, and corporate return filing for the T2. Late-slip consequences belong in penalties, interest and relief.

How much tax will I owe on dividends, and will CRA ask for instalments?

A BC owner under 65 with no other income or credits beyond the basic personal and dividend credits who takes a $60,000 non-eligible dividend owes about $4,000 by April 30 of the following year if instalments are not required, with nothing withheld. Holding back about 7% of that payout covers this illustration, but the next payout can face a different rate. See tax by province and amount (CRA: tax brackets; B.C.: dividend credit).

Dividends can leave a tax bill. A Canadian-resident individual's taxable dividends generally arrive without payroll tax withheld, so the dividend tax credit does not guarantee that the personal return has no balance owing in April. Set aside cash against the estimated tax before paying out the full dividend (CRA: dividend reporting; CRA: instalments and annual payment).

CRA instalments may be required when net tax owing exceeds $3,000 both in the current year and in either of the two preceding years. For Quebec residents, the federal threshold is $1,800 (CRA: who pays instalments). This tests your whole personal return after withholding and credits, including any rental or self-employment income. A reminder is a prompt to check the current-year calculation, not proof that the same income will recur. For most individuals, federal instalments are due March 15, June 15, September 15 and December 15 (CRA: instalment dates). Quebec tests provincial instalments separately on the same dates (Revenu Québec: instalments).

Missed a required September 15 instalment? Paying before December 15 can reduce interest (CRA: instalment interest); check tax instalment reminders. A free 10-minute call can review your dividend, province and other income.

What changes in Quebec?

Quebec changes both the payroll process and, potentially, the corporate-rate comparison. Salary for Quebec employment generally brings QPP and QPIP deductions and Quebec income-tax withholding; the owner receives an RL-1 as well as a federal T4 (Revenu Québec: employee contributions; Revenu Québec: RL-1 filing). The corporation must also account for applicable employer QPP and QPIP contributions and other Quebec payroll charges (Revenu Québec: employer contributions). A taxable dividend to a Quebec-resident shareholder generally needs an RL-3 as well as a T5 (Revenu Québec: RL slips).

An employee at least 65 but under 73 at year-end who receives a QPP or CPP retirement pension can elect to stop QPP contributions. The employee signs Form RR-50-V, gives every employer a copy and sends the form to Revenu Québec; it takes effect on the first day of the month after the employer receives the copy (Revenu Québec: Form RR-50-V).

For a corporation carrying on business in Quebec, the provincial small business deduction can depend on remunerated employee hours and business activity. Salary can affect that hours test, so check the corporation's eligibility and year-end before comparing pay methods (Revenu Québec: small business deduction). See how corporations are taxed for the corporate-rate rules.

Example

Illustrative Canadian-dollar amounts. A BC corporation has C$100,000 of active-business profit before owner pay and qualifies for the federal and BC small-business rates, a combined 11% (CRA: corporation tax rates). The working owner is under 65, has no other income or EI, and earns pensionable salary throughout the year. The first two choices target C$60,000 of gross pay; the third distributes all available cash. The table shows corporate cash flow before the owner's personal income tax and employee CPP, so it does not rank total cost.

Employer CPP is based on CRA's contribution table and CPP2 table. Salary builds RRSP room and CPP; dividends do neither. Before declaring a dividend, check the corporation's governing law and share terms; see declaring and paying a dividend. Salary payments are reduced by employee CPP and withholding. These choices distribute different amounts, so compare total corporate and personal tax before deciding. For dividend tax in other provinces, use your own income and dividend type.

Different for you?

• You already withdrew money without recording pay: start with shareholder loans.
• Your spouse or children will receive pay: paying family members covers the separate salary and dividend rules.
• Your company earns investment income or keeps profit for investing: see holding and investment corporations.
• Your company may be a personal services business: its salary deduction and corporate tax rules need review under personal services businesses.
• You are a US citizen or own a US company: use American owners of Canadian corporations or paying yourself from a US company.
• You are in Quebec, have several shareholders, or need to set up repeat payments: bring the last T2, year-end, share terms, prior slips, personal tax return, RRSP room and cash needs to bookkeeping and payroll help.
• You owe tax after dividends: see how to handle the balance.
• You need to declare a dividend or issue a T5: see declaring and paying a dividend.
• You are deciding when or how much to take out: see year-end dividend timing and how much to pay yourself.
• You need mortgage income proof or wonder whether dividends can be tax-free: see proving income to a lender or how much dividend income is tax-free.