Dividend Tax Rates Increasing

This Tax Tip replaces Tax Tip 13-16R by adding Manitoba rates and updating Ontario tax rates to reflect Ontario’s November 2013 confirmation that it will adopt the changes to the dividend gross up and tax credit proposed in the 2013 Federal Budget.

With the scheduled increase in dividend tax rates, as highlighted for selected provinces in the table below, the need for tax planning before the end of 2013 becomes even more important, particularly for owners of private corporations^[1].

 

Province	2013 Top Marginal Rate on Eligible Dividends	2014 Top Marginal Rate on Eligible Dividends	2013 Top Marginal Rate on Non-Eligible Dividends	2014 Top Marginal Rate on Non-Eligible Dividends
BC	25.78%	28.68%	33.71%	37.98%
Alberta	19.29%	19.29%	27.71%	29.87%
Manitoba	32.26%	32.26%	39.15%	40.77%
Ontario	33.85%	33.85%	36.47%	40.13%

 

Profits earned within a corporation may be held in the corporation and incur tax at only the corporate level until they are distributed by the corporation to an individual shareholder. As such, tax deferral can be obtained by leaving the profits in the corporation or a holding company connected with the corporation.

Why would a private business owner pay a dividend and incur a second level of tax?

• In order to recover refundable tax balances.  For example, suppose you have a holding corporation with a refundable dividend tax on hand (RDTOH) balance of $100,000. Consider paying a dividend sufficient to obtain a $100,000 dividend refund (RDTOH x 3, or $300,000) in 2013 rather than waiting until 2014, so as to take advantage of the relatively lower tax rates in 2013 while recovering the refundable tax balances within the corporation.
• If an “estate freeze” has been undertaken in the past so that the corporation has preferred shares outstanding, it may be better to redeem some of these preferred shares instead of paying a dividend on the common shares, in order to recover RDTOH balances.  By redeeming the preferred shares the shareholder receives the added benefit of reducing the tax that would otherwise be payable on disposition of the shares (on death or otherwise).
• If the shareholder anticipates a need for personal cash within the relatively near future, it may be preferable to extract such cash as dividends in 2013 rather than waiting until a later year when dividend tax rates will be higher.
• If significant dividends are anticipated in order to recover refundable tax balances or extract cash from the corporation, a shareholder may wish to consider legitimate  interprovincial tax planning opportunities (e.g., a genuine move to Alberta), so as to realize tax savings from relatively lower rate tax jurisdictions.

In order to save the increase in tax rates of 4.27%, 2.16%, 1.62 or 3.66% from 2013 to 2014 in BC, Alberta, Manitoba  and Ontario, respectively, it may be worthwhile to consider paying dividends by the end of 2013.

If you have any questions regarding the scheduled increase in the tax rates on dividends, or would like to discuss tax planning opportunities that may exist prior to year end, please contact your TSG representative.

^[1] The rates apply to the actual amount of taxable dividends received from taxable Canadian corporations and are the maximum combined federal and provincial marginal tax rates for dividend income based on known rates at November 15, 2013.