Jul 19, 2017
“Changes to strategies that have been the basis for shareholder… Read more »
“Ontario has decided to gradually introduce the reduced dividend tax rate.”
On August 3, 2006, Ontario released a tax information bulletin providing its proposal with regard to the federal dividend tax changes. The federal government had released a proposal to reduce the tax on certain dividends when paid from a Canadian public company or from active business income earned by a CCPC that is not subject to the small business deduction. The federal Department of Finance had released its draft legislation on June 29, 2006 as to the mechanics and details of the federal dividend tax system.
Ontario has now released its proposal. Instead of following the Federal lead by fully adjusting its taxation on dividends, it has decided to gradually change the provincial tax rate on eligible dividends.
At present, the highest Ontario tax rate on dividends is 11.76%. As per the schedule below, the dividend tax rate will be gradually reduced until it reaches an overall tax rate of 7.83% in 2010.
|Dividend Tax Credit||Top Rate|
|No Surtax||With 56% Surtax||Ontario||Federal + Ontario|
The Bulletin released by Ontario states that the adjustment to dividends will be in line with the adjustments to corporate income tax rates that will also take effect ultimately in 2010. Unfortunately, this will add an extra level of complexity in planning as the benefits to the eligible dividends are not as high as expected until the lowest tax rate is reached in 2010.
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“The new dividend tax rates will affect owner/manager clients.”
On November 23, 2005, the Minister of Finance announced the reduction in the income tax rate on certain dividends paid after 2005. This announcement seemed like a simple straightforward adjustment to the tax rate, but its implications are far reaching. The main focus of the announcement was to “level the playing field” between income, trusts and corporations. However, the reduction in the tax rates will significantly affect those advisors who deal with owner/manager clients, as well.
The tax reduction will apply to dividends paid after 2005 by:
that are resident in Canada and subject to the federal general corporate income tax rate.
It will also apply to dividends paid by CCPC’s to the extent that the CCPC income is:
The overall tax rate on the eligible dividends is reduced to approximately 20%, assuming the provincial governments will follow suit. The net effect is that the overall tax rate on the income earned above and personal taxes should approximate the highest personal tax rate (approximately 46% in Ontario).
In the past, capital gains had a significantly lower tax rate than dividends. This changes the preference to dividends over capital gains.
It appears that CCPC’s will have to determine whether dividends paid are from investment income, active business income at the small business rate, or high rate active business income. This will mean some kind of new tracking and ordering rules, adding significant complexity for CCPC’s and their advisors. It is uncertain at this point whether the tax reduction will apply to dividends paid out of income earned pre-2006.
This change could mean the end of bonusing down to the small business deduction level. In the past, it made sense to bonus down so as to avoid any additional taxes over and above the highest marginal tax rate. This new regime will ensure that a company and its shareholders never pay more than the highest marginal tax rate.
Even though the announcement states that it will apply to dividends paid after 2005, there is no legislation to date. Until the legislation is released, there is significant uncertainty as to how these rules will be implemented. To add a little more uncertainty, there is a federal election which will certainly slow down the process. We must all wait and see what the actual rules will be.