10/7/2019 When business owners shouldn’t make RRSP contributions - Canadian Business

When business owners shouldn’t make RRSP contributions

Feb 7, 2013 Larry MacDonald

If you own a corporation, should you contribute to an

RRSP?  Most advisers have in the past answered yes to this
question. But a growing number now say the opposite.
Here’s a summary of this view (relevant documents are
listed at the end of this article).
The conventional wisdom has been to pay yourself enough
of a salary to maximize RRSP contributions (for 2013, the
maximum RRSP deduction is $24,270, which requires
(Photo: Dinodia/Getty Images) $134,800 of salary). Dividends from the business do not
qualify as earned income, so cannot be used to make
RRSP contributions. But since they are taxed at lower rates than salary income, they should be used
to cover living expenses not funded by salary paid out to create RRSP room. If the business owner has
a pension or Individual Pension Plan, RRSP contributions need to be reduced by the amount of the
Pension Adjustment.
When not to make RRSP contributions
For owners of Canadian-controlled private corporations with less than $500,000 active business
income (excludes investment income) the conventional wisdom doesn’t appear to apply anymore in
many cases. Reductions in corporate tax rates for such small businesses now make it better to take
only dividend income to cover living expenses and to save for retirement by leaving surplus income
inside the company to be invested.
In addition to optimizing lifetime after-tax income, saving for retirement within your corporation offers
more control over withdrawals from retirement savings. At 71 years of age, RRSP holders have to roll
over the plan into a RRIF and take withdrawals according to a prescribed schedule. But if the
retirement fund is built up inside a corporation, the owner can sell investment assets as needed and
take dividends from the company at a level and rate of his or her choosing.
Furthermore, the businessperson taking only dividend income does not have to pay premiums to the
Canada Pension Plan.Communications
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 10/7/2019 When business owners shouldn’t make RRSP contributions - Canadian Business

There are some caveats to consider. If too much investment income is earned inside the company,
the $750,000 capital-gains exemption may be lost when the owner sells her company. But this is not
a serious restriction as it can be avoided by extracting investment assets in a number of ways, ranging
from paying a retirement allowance to distributing tax-free dividends to a holding company.
Another caveat is that dividend remuneration may not be appropriate for the owner of a company that
can be sold for a substantial sum—for example, a manufacturing company or one otherwise
possessing substantial tangible assets. Taking only dividend income works best for professionals
whose main asset is their intellect and personal labour.
Mark Goodfield, a managing partner of Cunningham LLP in Toronto, offers other considerations for
owners thinking about foregoing an RRSP.

The gross-up on dividends could result in a partial clawback of old age security income

An RRSP is creditor proof (except for contributions made 12 months prior to a bankruptcy)

Investment Tax Credits may be reduced under an all-dividend compensation strategy

Claiming tax refunds for child care costs requires the lower income spouse to have a salary

The above overview was offered for information purposes. To be sure of optimizing your financial
situation, consult with an adviser. Cookie-cutter solutions don’t work well when there is a great deal of
variation across people, as is the case with business owners.
Selected sources:
Jamie Golombek, Rethinking RRSPs for Business Owners
Mark Goodfield, Salary or Dividends? Issues to Consider 
John Mill, Rethinking RRSPs – retained earnings/dividend strategy
 
 
 
 

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