For the past two decades, tax practitioners had little doubt that incorporating even a moderately successful business made financial sense.  The low corporate tax rate for CCPCs on the first $ 500K of corporate profit, the slight tax advantage the ineligible dividends received in the hands of the shareholders, and the tax free CDA extraction on capital gains all made incorporation the correct financial choice.  Even the higher corporate tax applied on profits above the $ 500K was a good deal because the retained earnings can be extracted via the eligible dividend that was given even a more favorable tax treatment.

Incorporation Changes in 2024

Despite the perennial tax changes applied to CCPC dividends since 2016, incorporation was still clearly advantageous albeit less so.  However, with the 2024 federal budget, a business owner must assess if the shrinking benefits of incorporation in today’s tax environment is worth the extra fees and filings attached to it.

Fast forward to 2024 and the federal budget, here is how taxation of corporate profits and investment income stands:

• Income splitting opportunity of CCPC dividends with adult family members almost non-existent now.  
• Taxes on ineligible dividends in the hands of the shareholder have quietly increased to the point that remuneration using the payroll method with all the payroll taxes attached to it can be argued as more favorable over the long run.  
• Taxation of investment income earned within the corporation has always been complex with a refundable tax pool regime.  However, it has become far more difficult for the shareholder to access the refundable tax pool sitting in the CRA account.
• Capital gains earned within the corporation have always been taxed at the same inclusion rate as capital gains earned by the individuals.  The 2024 federal budget diverged from this tradition whereby capital gains inclusion rate for corporations will increase to 66.67 percent, effectively reducing the addition to the CDA balance by the remaining 33.33 percent.  The new capital gains inclusion rate for corporations would also apply on gains realized on assets such as an office building or a manufacturing plant used directly in the business.  Capital gains inclusion rate on personal taxes will still be 50 percent on the first $250K per annum.

Above are just a sample of the tax changes that is most widely felt by Canadian business owners. 

As a business owner considering incorporation, the question to ask is which option would be more beneficial in the long run?  And the answer depends on the cost of living for the shareholder and the amount of profit the business is generating.  

Cost of living in Canada is high.  Hence more of the corporate profit needs to be extracted from the corporation to pay for just living in Canada.  The more that is extracted out of the corporation, the more that is subjected to the personal progressive tax regime.   In addition, at the personal tax level, there exists numerous types of registered savings accounts that are given favorable tax treatment:  the RRSP, RESP, TFSA, and the FHSA.   However, funds need to be extracted from the corporation to contribute to these registered accounts.

To Incorporate or Not to Incorporate?

This brings us to corporate profit level where incorporation makes sense.  A Canadian individual needs to earn enough to make ends meet, fully fund the registered savings account, and pay CRA at the personal and corporate levels.  Only corporate retained earnings left after these fulfillments can be sheltered in a CCPC.  

Hence, the annual retained earnings being sheltered must be large enough to justify the ever increasing complexity with corporate taxes and the accompanying professional fees.