Over the past couple of months, I have put out a series of articles describing how corporate taxation works and how to pay yourself from your corporation. This post has a video about how to use my Canadian Corporate Income Dispenser. It is a corporate and personal tax calculator to help you get a sense of an optimal corporate compensation plan for your situation. There is also a written overview of how the calculator works.
Planning how to pay yourself requires both corporate and personal income tax calculations. It should be driven by how much money you need to pay for your personal lifestyle spending and investing plan. Hopefully, this algorithm-driven corporate and personal income tax calculator will help you. You should consult with an accountant before implementing any tax planning. However, considering the inputs and outputs of this calculator for your situation can be a good conversation starter with your accountant.
Why Bother Estimating Your Taxes?
Doesn’t my accountant just figure it out and tell me? They can, but you will get a better outcome if you understand and participate. There are all sorts of nuances and special situations. Like income-smoothing for an upcoming splurge, or income-splitting with a spouse. Your long-term plan comes into play, like using your more tax-advantaged TFSA or RRSP accounts. Having no access to the small business deduction, a very low personal cost of living, or a large corporate investment portfolio can all factor in too.
It is complicated. That is why we use an expert accountant to help advise for our specific situation. That said, I have seen many situations where there has been sub-optimal advice. Even leaving real money on the table. Sometimes that happens due to not considering the long-term plan. It can happen because you didn’t provide important information about your plans. Other times, the accountant didn’t think about it or analyze the options beyond a single year or rule of thumb. There are also sneaky forces at play, like inflation eroding the value of notional accounts. Even many professionals don’t consider how that plays out in the future when money inevitably has to come out of the corporation.
My hope with this corporate and personal income tax calculator and planner is that you will find it useful to consider your plan. Then, bring that to your accountant to have a more fulsome discussion to come up with the best plan specific to your situation. They are the tax experts on your team. However, you must still lead your financial team.
Video Instructions for Tax Calculator
Click the image below to go straight to the video that Dr. Zhou (Breaking Bad Debt) and I did together. It is time-stamped with different sections. Or click a section of particular interest in the overview to jump straight there. One of the benefits of doing this video is that we found some awkward parts of the calculator workflow. The updated calculator has fixed that. So, there are some minor differences, but they should be more intuitive now.
Corporate Income Tax Calculator Video Overview
0:00 – Intro
3:23 – Spending Plan calculation
4:21 – Income Smoothing to Plan for Large Purchases
6:16 – Income Split vs Cost Split with Spouse
7:25 – TFSA, RESP, RRSP contribution strategy
12:49 – Corporate Cashflow & Tax Planning
15:42 – Corporate Passive Income
19:15 – Corporate Notional Accounts
21:15 – Capital Dividend Account (CDA)
22:03 – General Rate Income Pool (GRIP)
23:01 – Eligible Refundable Dividend Tax On Hand (ERDTOH)
23:38 – Non-eligible Refundable Dividend Tax On Hand (NERDTOH)
27:46 – Personal Income Sources other than Corporation
28:35 – How much Salary/Dividend to Pay
33:06 – Total Taxes & Excess Personal Cashflow
34:47 – Income Split with Spouse
Corporation Salary vs Dividends Algorithm
Below is the algorithm that runs in the background of the corporate and personal income tax calculator. There are a few important inputs that aren’t in the diagram that come into play. I will describe them in the sub-sections that follow.
Personal Spending & Income Smoothing
The calculator is driven to dispense income based on targeting your after-tax cost of living requirement. That is input on the first page, but it also has the option to plan for an upcoming expense in a few years and income-smooth by taking out some extra money each year rather than a big lump.
The screenshot shows how to target $100K of after-tax spending. Plus, instead of taking out an extra $200K in two years, and bumping a bunch of that into the top tax bracket, it targets $200K/yr over two years instead. You would save the excess personal cash for your planned big spend.
Investing Plan
Some of your personal investments may be after-tax. Like TFSA or RESP contributions. The calculator will add the money required to the compensation paid by the corporation to leave the personal money to do that.
The calculator uses opportunities to strategically move money out of the corporation if the net corporate and personal tax calculation is less. That may leave excess personal after-tax cash. Then, the question is who should invest that in a personal taxable account. Selecting “income split” will attempt to preserve excess cash to be invested by a lower-income spouse. “Cost-split” will just split the costs of living and the excess could be used in a joint account. Income-splitting is more tax efficient, but some couples psychologically don’t like the idea.
RRSP contribution room is generated by earned income and net rental income. The calculator will not pay out excess income just to generate more RRSP room. That strategy was shown to be less efficient in the long run in the recent paper about optimal compensation from a corporation and my simulations have found the same. The calculator uses a dynamic salary strategy as described in the algorithm.
The default is to use any RRSP room generated and also deduct that in the current year. However, you can opt to limit that. Reasons to delay contributions would be if you expect a large external cash influx soon. A reason to delay using the deduction, even if already contributing, would be if you expect a large income bump in the near future. Such as the impending sale and gains for taxable property, commuting a pension, or a big bonus/raise.
The screenshot shows the setup for a couple contributing to their TFSAs, using their RRSPs, and the corporate owner directing 100% of their RRSP contributions to a spousal RRSP for their spouse. They are using their RRSP room generated now and income-splitting by directing any excess cash to the lower-income spouse.
Tax Plan Tab
This is the main corporate and personal income input tab for the tax calculator. The most important information to enter is the corporate active and passive income. However, if you know the balances of the notional accounts for your corporation, then adding that information will trigger the calculator to try and use them tax efficiently. You can find the RDTOH, CDA, and GRIP accounts on your corporate tax return or by asking your accountant. If you have minimal investments, then these balances will likely be low.
Capital dividends are a highly efficient way to move money out of your corporation. However, they may involve accounting fees. So, you can adjust the threshold to use the CDA. If you have no fees, then emptying out any CDA by setting the threshold to zero would is possible. If higher fees, then waiting to pay one larger capital dividend could make more sense.
Generally, a mix of salary and dividends is most tax efficient. However, that does involve paying into the Canada Pension Plan. I consider CPP to usually be a pension rather than a tax. It should provide a stable low amount of income proportional to your contributions. A reasonable return for the low risks taken. However, some people really want to only pay dividends to avoid CPP, not use an RRSP, and keep everything in the corporation. That may cause inefficiencies in the future when the corporate investment income becomes really large. Regardless, those with a plan to go that route can select “dividends only” as an option.
The last section allows for input of personal income from outside the corporation. Consider putting net rental income as T4 income because it generates RRSP room. Enter annual dividends or interest from personal investments or salaries in the appropriate fields.
Detailed Summary Tab
The final tab is the output from running the information from the previous tabs through the calculator. It estimates corporate taxes, changes to corporate notional accounts, and changes to retained earnings.
Personal compensation from the corporation to the owners is also detailed. Taxes and CPP contributions are accounted for.
There is also a detailed division of spending and investing attributed to each spouse.
Corporate Income Tax Calculator Accuracy, Precision, and Errors
This calculator took a few years to build and tune the algorithm. However, I have no delusions that it is perfectly accurate and precise. Even though it spits out seemingly precise numbers. It is meant for ballpark information to help you to better plan and discuss in collaboration with your accountant. I still find the occasional bug or error. Usually, with the help of one of my readers and screenshots. So, if your find one, please contact me with a description and screenshots. I am trying my best, but as the disclaimer in the calculator says, there is no warranty.
The calculator uses the Federal and provincial corporate and personal tax rates. It accounts for the basic personal amount, dividend tax credits, CPP, RRSP deductions, and some of the provincial “health premiums”. It assumes that corporate salaries paid to owners have opted out of employment insurance.
The calculator also does an alternative minimum tax calculation (AMT). AMT can be triggered when compensation is mostly via capital gains and dividends. If the AMT is higher, then the calculator increases compensation to make it break even with regular taxes. You would be paying that tax now anyway and this at least gets more money out. There are pending changes to AMT that will likely exempt most moderate-income Canadians and heavily tax those with very high passive income streams. I will reassess that part when the legislation comes out.
Corporate Compensation Articles
Income Smoothing Using A Corporation To Reduce Taxes
You are bound to have fluctuations in your income. Both over your long-term career and life cycle, but also year to year. Your consumption and the income required to support it will also fluctuate.
Learn how income smoothing using a corporation can minimize your taxes. That means more money for you to spend now or invest for the future.
Corporate Account Types: Know Where The Money Is
A corporation allows us to regulate money flow, like a giant dam. That could reduce taxes by releasing income smoothly. You can also allow money to pool in the reservoir.
There are different accounts that you can use to efficiently manage corporate cash flow. Some of those are real accounts with real money. Others are notional accounts tracked on paper. Learn where the money is to turn notional money into real money. And to manage that real money well.
Dividends To Maximize Your Corporate & Personal Cash Flow
Now that you know where the money is, you must learn how to balance releasing it using dividends against the personal tax on dividends.
In this post, learn about when and how to pay yourself dividends tax efficiently from your corporation. Getting the right mix of dividends can increase your investible money.
Prioritize that to minimize how much of your buying power is nibbled away by the inflation-monster. Take advantage of opportunities to shift corporate money to invest personally without losing tax deferral.
Why to Pay Yourself Salary From Your Corporation
You learned in the preceding post why paying yourself some dividends is important when your corporation has investment income.
However, most incorporated business owners also benefit from paying themselves a salary. Similar to a regular employee.
Learn why paying yourself a salary from your corporation is beneficial and where that fits in with paying yourself dividends.
How To Pay Salary vs Dividends From Your Corporation (Video)
You have to move the money out of your corporation and pay personal taxes to use it. Learn more about how to optimally do that using a combination of salary and dividends. The optimal mix will also change as your corporate investments grow. Learn why to ask the right questions and provide the right information to get the best out of your accountant.
When to Pay Yourself Extra From Your Corporation
For compensating yourself, paying enough dividends to release refundable taxes, then salary to make up a personal cash shortfall is a good rule of thumb. So, is taking advantage of corporate tax deferral.
However, this post describes times when you may want to take out some extra money from your corporation. Plus, ideas of how to better deploy it. You must understand enough to work with your accountant to get the best plan for you. Not just a rule of thumb.
Strategies To Withdraw Big Chunks of Money From Your Corporation Tax Efficiently
For large withdrawals from your corporation, plan in advance to minimize the tax hit.
That means more money for you to pay off debt, buy a house, max out your RRSP/TFSA, or whatever big splurge you have planned.
Learn about six different ways to access your cash without getting crushed by a big tax boulder trap.
