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Salary Or Dividends? Small Business Owners Should Review Their Compensation Strategy Before Year-end

Stocks in this article: CM

CIBC offers guidance for small business owners on withdrawing funds from their corporations as salary or dividends

TORONTO, Dec. 10, 2013 /CNW/ - CIBC (TSX: CM) (NYSE: CM) - Small business owners risk paying too much in income tax by making the wrong decision on whether to withdraw funds from their corporations as salary (bonus) or as dividends, says CIBC's tax and estate planning expert, Jamie Golombek.

In a new report, Mr. Golombek offers guidance to small business owners on the most efficient way to pay themselves from their corporations, in light of recent and future changes in tax rates and rules. The report assesses the impact of the tax rate advantage, the tax deferral advantage and the tax-sheltering benefits of an RRSP as factors that can affect the compensation decision for small business owners.

"Each year, small business owners who run their businesses through corporations can choose to receive compensation from their corporations as either salary or dividends. This year, changes such as increases in the highest personal marginal tax rates in several provinces and modifications to taxation of dividends will significantly impact the compensation decision," says Mr. Golombek.

For small business owners who need to withdraw funds in 2013

"When small business owners need to withdraw funds in 2013 to pay for personal expenses, the 2013 tax rate advantage is an important factor in the compensation decision," says Mr. Golombek. "Paying dividends can generate tax savings when there is a tax rate advantage."

Paying dividends is generally the best option for SBD Income (which is income up to the small business deduction limit of $500,000 in most provinces) due to the tax rate advantage in most provinces, which ranges from 0.56 per cent to 4.54 per cent in 2013. For ABI (which is active business income above the small business deduction limit), paying salary is generally a better option due to the 2013 tax rate disadvantage in most provinces, ranging from 0.47 per cent to 5.88 per cent.

For small business owners who can afford to leave money in the company

"For small business owners who don't need to withdraw funds in 2013, it can pay to defer dividends to a future year," says Mr. Golombek. Although there will be a tax cost associated with paying dividends after 2013, there is a significant tax deferral advantage that may help to offset this cost. This year, the tax deferral advantage ranges from 25.00 per cent to 35.50 per cent across the provinces for SBD Income, and from 13.30 per cent to 23.07 per cent across the provinces for ABI. Mr. Golombek added, "If investing the deferred amount will generate enough income to offset the tax cost, then paying deferred dividends is the better way to go; otherwise, small business owners should still withdraw funds in 2013."

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