How to pay yourself from your practice
How to pay yourself from your practice
There are two common ways to pay yourself from your business — either by taking a salary as an employee or receiving dividends as a shareholder. Each option has benefits and drawbacks, and it is important to review:
- The pros and cons of a salary
- The pros and cons of dividends
- The benefits of a PHSP
Carefully considering the pros and cons of each option can help you make an informed decision that best suits your situation.
You may be wondering how to pay yourself from your practice. There is no simple answer to this question — and the compensation method you choose depends on what works best for your unique situation. Two common options involve taking a salary as an employee or receiving dividends as a shareholder.
Each of these options has specific benefits and drawbacks. Let’s review the pros and cons of taking a salary versus dividends. We’ll also share an example comparing each compensation option and discuss the benefits of a Private Health Service Plan (PHSP) to help you make an informed decision that works best for your specific situation.
What are the pros and cons of a salary?
We’ve summarized the benefits and drawbacks of paying yourself a salary as an employee of your practice below:
Pros of a salary
- A salary allows you to contribute to the Canada Pension Plan (CPP), which you will then collect in retirement.
- A salary allows you to contribute to an Individual Pension Plan (IPP).
- Since a salary is considered employment income, this option creates contribution room for a Registered Retirement Savings Plan (RRSP).
- It allows you to claim certain personal tax deductions, such as childcare expenses or moving expenses if you are moving within Canada.
- A salary provides the option to set up a Private Health Service Plan in your company.
- Income tax is paid by the company to the Canada Revenue Agency (CRA) through a salary, which essentially prepays your personal tax. This allows individuals to plan salaries for their personal needs and minimizes the risk of a surprise tax bill in April.
- A salary can be beneficial for applying for personal mortgages or loans.
Cons of a salary
- Salaries require a corporate payroll account and timely remittances to the CRA. The downside is that it can be administratively burdensome. Further, if the remittances are late or missed, there can be heavy penalties and interest charged.
- The net cash in your pocket will be lower due to the taxes paid upfront from each paycheque of your salary.
- If you apply for financing in the company, the amount available could be affected since the salary would decrease the company’s financial results.
- Additional documentation is needed when paying a salary such as a T4 filing with the CRA.
- CPP contributions are required as an employee and the company is required to match the contributions, which is an added expense to the company and the employee.
- A salary creates contribution room to your RRSP. If you do not expect to contribute to an RRSP, then this may be a lost benefit.
What are the pros and cons of dividends?
Paying yourself with dividends from your business also provides several benefits and drawbacks.
Pros of dividends
- Dividends do not require a payroll account or timely remittances to the CRA.
- Dividends typically yield a higher cash outflow to the shareholder because tax is not withheld at the source.
- Dividends require no contributions to CPP, resulting in higher profits for the company and more cash to the shareholder.
- There is more flexibility around the timing and payment of dividends.
Cons of dividends
- You may owe a significant amount of personal tax in April due to no taxes being withheld on payment, and may be required to make personal tax instalments for future tax years.
- Dividends will not build any room to make RRSP contributions.
- There are no contributions to CPP, which impacts your CPP payout in retirement.
- You will not be able to claim certain personal tax deductions, such as childcare expenses and moving expenses.
- Additional documentation is needed when paying dividends, such as a T5 filing with the CRA and director’s resolutions in the corporate minute book.
- The Tax on Split Income (TOSI) rules can apply where dividends are paid to shareholders that are not involved in the business. If TOSI applies, dividends are taxed at the top marginal rate. This should be discussed with your tax advisor.
Please note that the corporate tax rate will appear higher when paying dividends to shareholders since dividends are paid out of after-tax dollars (see example below). However, it is necessary to look at the combined rates of corporate and personal taxes to truly compare which is more tax.
Example: Salary versus dividends
The example below compares the two compensation options for an Alberta resident in 2024, assuming personal tax credits are not available.
| Line item | Salary | Dividends |
|---|---|---|
| Corporate earnings before compensation | $200,000 | $200,000 |
| CPP - employer | ($4,056) | |
| Corporate tax - 11% |
($22,000) |
|
| Net earnings |
$195,944 |
$178,000 |
| CPP - employee |
($4,056) |
|
| Compensation paid |
$191,888 |
$178,000 |
| Combined personal tax |
($57,291) |
($39,423) |
| Net cash to shareholder |
$134,597 |
$138,577 |
| Total tax paid |
$57,291 |
$61,423 |
| Cost of CPP |
$8,112 |
From a solely personal tax perspective, you will have $3,980 more cash if you choose dividends instead of a salary in the example above. However, you will also be paying approximately $4,132 more in income tax when you combine the corporate and personal tax being paid. While CPP is an additional cost of salaries, the benefit is reaped in retirement when CPP is collected.
Preparing a budget and maintaining awareness of your monthly living expenses can help determine which mix of compensation is best for your specific situation.
What is a Private Health Service Plan?
The ability to set up a Private Health Service Plan (PHSP) is a potential benefit of paying yourself a salary. You can think of a PHSP as a company-insured employee benefits plan that offers more flexibility than typical group insurance plans.
It can be challenging to offer benefits when a practice only has a few employees due to the high cost of administering these plans. A PHSP is a good alternative and acts as a spending account for employee medical expenses.
The company reimburses employees for medical expenses incurred up to a predetermined amount through a PHSP. The amount is set by the employer on an annual basis and can also be customized for different employees or groups of employees. The employees must pay their own expenses above that limit. Reimbursements are considered an expense for the company when expenses are incurred and submitted by the employee.
Eligible medical expenses under the CRA are not considered a taxable benefit to the employee. Expenses outside the CRA guidelines for medical expenses would need to be added as a taxable benefit on the employee’s T4 slip.
If 90 percent or more of the medical expenses reimbursed by the plan are eligible under the CRA guidelines, this qualifies as a PHSP and is fully deductible to the corporation.
Take the next steps
Determining how to pay yourself from your business depends on what works best for your unique situation. It is necessary to carefully consider both the benefits and drawbacks of a salary versus dividends as well as your long-term goals for the future. However, it is important to remember that you can always change your decision if the method you chose is not working for your specific situation. You can also choose a blend of both compensation options if that option works best for your lifestyle needs.
For more information, contact a member of MNP’s Professionals team. We have the experience to help
Neelam Pamnani, CPA, CA
Senior Manager - Professionals Niche Regional Leader
780.832.4272
[email protected]
April Adam, CPA
Senior manager - Assurance & Business Advisory Services
780.832.4293
[email protected]
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