Are Dividends Taxed as Capital Gains in Canada?
In general, as most people know the most common dividend type refers to the standard cash dividend. However, a dividend does not necessarily have to be in this form. In fact, it can be in the form of any type of value transfer including corporations and shareholders ones. All non-cash dividends are also known as dividends in kind and may be found in the form of additional stock, notes payable, or specific property.
One more important thing that everyone has to be aware of is the fact that a dividend can be either eligible or non-eligible which will affect the tax rate you need to pay. Lastly, the capital dividend is issued in the case when a corporation realized capital gains, a life insurance policy proceeds, or capital dividends from another corporation. Now it is time, to talk about every mentioned dividend so you can have all the necessary information regarding them.
Eligible Dividends and Non-Eligible Dividends
Canadian tax law finds very important the idea of tax integration. For those who are not familiar with this term, integration of this kind is the idea that the ultimate income tax rate of some stream of income from the moment an individual reaches it. It needs to be approximately the same tax rate no matter how the person organizes his affairs. Further, that refers to the fact that the total income tax on a particular stream of income is going to be the same no matter whether it is earned from a person or earned in a corporation and after that, paid out to that person as a salary – or as a dividend. It is also good to know that the tax is going to be the person’s marginal tax rate when that person earns income in a direct way.
In the other case, the corporation will pay the salary to the person as a salary according to the taxes. However, the corporation can also deduct the person’s salary as an expense in which case the person again pays his own marginal tax rate. The good news is that dividends are paid from a corporation’s aftertax profits which means that they already paid corporate income tax. In the case that a person pays his full marginal tax rate on the received dividend, that stream of income is going to be subjected to both corporate tax and individual tax due to the double taxation process.
Forms of Dividends
The form of a dividend can vary a lot. In basic form, a dividend represents a transfer of value from one corporation to its shareholders according to a dividend declaration from the directors of that corporation. When it comes to this transfer it can be in cash, but this is not the only option. It can also be a dividend in the form of stock, property, or notes payable. When it comes to the stock dividend it represents insurance by a corporation of its stock to its shareholders. For all stock dividends, the value of the dividend is calculated by the fair market value of the stock. Additionally, the ultimate tax liability stemming from that dividend will depend on whether it was eligible or non-eligible including the person’s marginal tax rate. When it comes to the property dividend since it is a non-cash dividend it includes stock dividends. However, it mostly refers to the distribution of equipment, inventory, real estate, artwork, and jewelry.
As an individual, you should know that the value is going to be calculated as the fair market value. This is not the case with corporations since the distribution of property is going to be a disposition and this is going to affect the taxable event. In that case, a particular corporation is going to realize a gain or loss on the property which is calculated as the current fair market value of the property. From that value, it will be taken the corporation’s adjusted cost basis in the property. When it comes to the notes payable dividends, they present a promise by the corporation to pay the shareholder at a later date. This presents a type of debt. This dividend can be useful in different types of corporate planning. However, it is essential to be aware of the fact that the note payable is considered income to the person who receives which means that that person must include the value of the note payable in his own Canadian include tax return.
Lastly, no matter what type of corporation is o the form of the dividend, corporations can issue tax-free capital dividends. They can do this as long as they are having a sufficient capital dividend account balance. An account of this kind stems from capital gains that are realized by the corporation and all other non-taxable amounts that are earned by the corporation. This includes the ones that proceed from life insurance and the ones issued to the corporation from some other corporation. According to Canadian Income Tax law, only half of the capital gain is taxable.
When it comes to the other half, it is non-taxable and it applies to both corporations and individuals. Therefore, for capital gains, corporations only pay tax on the taxable half of the capital gain. However, it is worth mentioning that tax integration considers the combined taxation of some stream of income both in the case when it is earned and in the case when it is later flowed out into individual taxpayers. Therefore, the non-taxable capital gain half should still come with no taxes when it is flowed out to the corporation’s shareholders. This is only achieved by recording the non-taxable portion in the corporation’s capital dividend account and enabling the corporation to issue non-taxable capital dividends to its shareholders.
Bonus Tip – Use Tax Calculator
In case you want to make things much easier for yourself, you can consider using the dividend tax calculator Canada by visiting paycheckguru.com. Whatever type of income you are having, except employment, this calculator will help you get to know how much tax you need to pay on that type of income in the most practical way.