Income Splitting Through a Corporation
In March’s article, I covered the tax benefits for corporations with income qualifying for the small business deduction. This month I will explore and outline the benefits of income splitting through a corporation.
One of the greatest benefits of setting up a business as a corporation is the ability to distribute profits to individuals in lower tax brackets. This is accomplished by setting up family members as shareholders in the company. Additionally, it provides a structure through which you can multiply the capital gains deduction if your company meets the definition of a qualified small business corporation.
Perhaps the most advantageous income splitting approach is to pay dividends to adult family members who own shares in the company. The tax savings can be quite a substantial amount if one shareholder is at the highest tax bracket while the other/another shareholder (a spouse for example) has no taxable income. For example, a dividend of $30,000 paid out to the spouse (with no other income) instead of to the spouse with the high tax rate income will save approximately $12,000 in taxes.
Often, family members will acquire shares at the time of incorporating the business (before the company has any true value) and pay a nominal amount to subscribe for those shares. An estate freeze can be performed if the business was already incorporated prior to the family members subscribing for shares. The estate freeze essentially provides a mechanism that allows the potential shareholders to subscribe for shares at a nominal amount.
The tax advantages of income splitting are, and will continue to be, a motivator for many businesses to incorporate. Contact your accountant, or reach out to me at BDO, to discuss whether incorporating your business is right for you.
Jonathon (Tug) McGraw, BCOMM, CPA, CA
BDO Canada LLP
Jonathan can be reached at: firstname.lastname@example.org