Paying Yourself: Salaries vs. Dividends – Part One

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by Kent Greaves
Kent Greaves 48 Comments

The Pros and Cons of Salaries

Today’s blog is the first of a two part series on paying yourself as a Small Business Owner — should you pay yourself a salary or in dividends?

You’ve started your own business and you’re finally starting to make some money — your suppliers and staff are being paid, as well as your bills, which means it’s time to take some money out for yourself. So, is there a difference between the money you earned while working for someone else and the money you’ll earn working for yourself? Not really — but there is a difference in how you collect that money. Today we’re talking about the pros and cons of taking a salary as a small business owner.

In terms of how often you get paid, there is no difference at all! Set yourself up to receive a pay cheque as often as your other employees do (for simplicity’s sake) such as bi-weekly, monthly or perhaps quarterly.

When it comes to writing the cheque, what’s easier? With a salary, you will have to manage payroll, which can be time-consuming and for many small business owners, a little overwhelming. Talk to Kent Accounting about our Payroll Service Bundles and take one more thing off your to-do list. As for overall money management, when paying yourself is a part of your monthly rhythm, it’s a lot easier to control and monitor how much you’re spending and how often you’re taking money out, as opposed to those who take money out of their business ad hoc.

In the short-term, taking a salary will mean you will pay a slightly higher tax rate. You’ll pay CPP (Canadian Pension Plan) and income tax off of every cheque (generally speaking, business owners and their immediate family members are exempt from EI). As a small business owner, remember not to be late with remitting your source deductions to the CRA, as there are penalties every time you are late (10% the first time you’re late, 20% the second time you’re late).  To avoid remittance penalties, contact Kent Accounting and let us manage your payroll services and your source deductions.

However, salaries give you some great tax advantages in the long-term — namely, the right to receive a pension when you retire and access to RRSP room.

CPP: by contributing to CPP, you gain eligibility to receive CPP payments starting as early as age 60. While the payout amount varies from person to person, many Canadians over 60 years receive approximately $1,200 per month. CPP is a savings safety net that ensures all Canadians can have a comfortable retirement.

RRSP:  salary also allows you room to contribute to your RRSPs (up to 18% of your calculated total yearly salary) with a maximum, in 2016, of $26,010.  When you contribute to an RRSP, you get a refund on any tax paid on the income you earned.  Many of our clients receive 30% or more back for each $1 they contribute… so a $10,000 RRSP contribution could get you a $3,000 refund. That refund would pay for a nice vacation for you!

Note that the refund amount depends on your total income for the year. Further, investments in an RRSP grow tax-free. Not sure what that means in terms of dollars and cents? It’s such an important topic I wrote a separate blog about it (click here to read it). RRSPs are considered by many to be the best tax deduction available to Canadians.

There are some rigid rules to salaries that can’t be discounted. With salaries, you can only provide pay cheques to people who have provided services for your company, so your salary is yours alone. Also, once you’ve reported your total salary to the CRA, there’s almost no flexibility in changing how much you earned for any given year, and that lack of flexibility can be challenging for some.

We strongly encourage you to discuss your remuneration with a qualified small business accountant.  Want to talk to us about it?  Contact us here.

 

Disclaimer: Tax and legal rules change frequently and can depend on your individual circumstances. The above is not to be relied upon as legal nor tax advice and is meant for information purposes only. Please consult a legal and/or tax professional.

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