You likely take time to look for the right blend of coffee to start your day. You explore different fertilizers to nourish your crops. The same principles apply when deciding how to compensate yourself.
Two main ways you can take money out of your farm corporation are salaries and dividends.
A dividend is the distribution of the corporation’s after-tax profits to its shareholders and is not deductible for tax purposes. Personal tax rates on dividends are generally less than rates on most other types of income.
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Small businesses are taxed at a lower rate when taxable income is below the business limit threshold. In 2021, all provinces’ small business limit was $500,000, except Saskatchewan, which had a limit of $600,000. You may want to consider if your corporate income is close to this threshold and take advantage of the lower tax rates by paying yourself a salary. A salary is deductible by the corporation for tax purposes, whereas dividends are not.
A salary can also include a year-end bonus. Bonuses can help with tax planning in addition to rewarding exceptional work when evaluating your company’s performance.
For bonuses to be deductible, they must be paid within 180 days of the company’s year-end. For example, if your farm has a year end of Oct. 31, 2022, the bonus must be paid by April 29, 2023 . The bonus will be expensed in the company’s 2022 year end and taxable to the recipient when received by them.
When implementing bonuses, you should ensure that there are available cash flows for both the bonus plus any additional tax remittances required by Canada Revenue Agency.
If it is reasonable, you may consider splitting your salary with your spouse or your children and take advantage of lower tax brackets. In Canada, the more you earn the more tax you pay at a higher tax rate, so it may be beneficial to pay two salaries of $40,000 compared to one salary of $80,000. Generally, taxes will be lower on two salaries.
The CRA requires salaries paid to family members be considered reasonable for the work completed. An easy way to remember what is reasonable is to ask yourself, what would you pay your neighbour to do the same type of work.
As an owner taking a salary, you should consider the benefit of qualifying for the Canada Pension Plan as well as the increase in contribution room in your Registered Retirement Savings Plan. Taking a dividend will not provide these opportunities.
Finally, drawing a regular salary from your company will require added administration in the form of regular remittances to the CRA. You should consider this if filing paperwork isn’t one of your preferred tasks.
Much like your morning cup of coffee, there is no one perfect blend that works for everyone. As a corporation evolves so will the optimal mix to compensate yourself. The option is not often clear or simple, but educating yourself on your options and their pros and cons will help you to ask the right questions when having these discussions with your trusted adviser.
Colin Miller is a chartered accountant and partner with KPMG’s tax practice in Lethbridge. Contact: colinmiller@kpmg.ca.
