Now that you setup your PREC, should you pay yourself a salary or a dividend?
As we all know, Personal Real Estate Corporation is considered a separate legal entity. PREC can own assets, buy real estate, owe liabilities, sign contract, etc. PREC is essentially a legal person.
This also means that the PREC must file its own tax returns.
It also means that, when you, as the owner of the corporation, draw money out from the corporation, there can be tax impact.
There’re three ways to draw out money from your personal real estate corporation
- Repayment of shareholder loan
Repayment of shareholder loan
When you first start your personal real estate corporation, you would have lent some money into the corporation to get it started.
This can include a direct deposit of funds to your corporation bank account to cover the initial expense before the first paycheck comes in.
This can also include payment of incorporation fees, etc. that you pay personally on behalf of the corporation to get your PREC going.
As a result of these advanced payments, your personal real estate corporation may owe you money.
Your PREC can repay you, the shareholder, the amount that you have invested into the corporation, tax-free withdrawal from your personal name.
When you own your real estate agent business inside a corporation, there’s always a tax impact when you take the money out from the corporation.
There are two common ways to do so – one is by way of salary and the other is dividend.
Salary vs. Dividend
What’s the difference between the two of them?
- Salary is a deductible expense in the corporation and a dividend is not
Let’s use an example to illustrate. Say personal real estate corp makes $400,000 before paying a salary.
Say the corporation pays $100,000 to the shareholder as a salary, the corporation is taxed on $300,000 at 12.2%. The individual who receives the salary will then pay tax on the $100,000.
You, the realtor, will be paying personal taxes on the $100K salary.
Now, if the corporation decides to pay the dividend instead, the corporation would first get taxed for $400,000 at 12.2%. The individual then receives the $100,000 as dividend.
The realtor pays a lower tax amount on $100K dividend received, as the corporation already pays 12.2%.
In a nutshell, there’s no difference in terms of the tax paid.
Personal tax on salary would equal the combined corporation tax and personal tax on the dividend of the same amount. That’s called tax integration.
- There’s an additional cost involved, such as CPP & EI when you pay a salary
When paying a salary, the PREC is required to withhold taxes, employee’s portion of Canada Pension Plan and pay the net remaining amount to you, the employee realtor.
Personal Real Estate Corporation, the employer, in this case, the corporation, is also required to make the same amount of contribution of CPP.
Personal Real Estate Corp is then required to remit the withholding taxes, employee and employer portion of CPP on a monthly basis to CRA.
At the end of the year, you also have to reconcile with CRA by filing a T4 information return.
By paying yourself a salary, you get to contribute to your CPP. If you continue to contribute to CPP, when you reach the age of retirement, you can be eligible to receive your CPP.
Amount of CPP you receive will be based on the amount of CPP you have contributed.
- Salary can give you RRSP contribution room, qualify for financing & enable you to deduct childcare expense
Although the costs seem to be higher with salary, there’re some other benefits from paying a salary.RRSP contribution limit is calculated as a percentage based on earned income. Salary is one of them but dividend isn’t. If you want to save money in your RRSP account, paying yourself via dividend won’t work.
If you have childcare expenses, you can deduct the childcare expenses against salary, but not dividend.
Dividend income is not part of the definition of earned income but salary is. In another word, if you make $100,000 dividend income, you’re the lower income spouse and you also incur $8,000 of childcare expenses, you will NOT be able to deduct the $8,000 expense in your personal tax return.
Have a proper consultation with a professional accountant that understands your tax picture and
- You are entitled to an additional employment amount (as a personal tax credit) if you are paid a salary
When you earn a salary, you get another $1,245 employment amount as non-refundable personal tax credit. Self-employed individual are not eligible to claim this amount unfortunately.
Calculated on the base personal tax rate, this is equivalent to $1,245 x 15% = $187 (in 2020) non-refundable tax credit.
Unfortunately, this isn’t available when you earn a dividend income.
Okay, it is not a simple answer, is it?
Speak to a professional accountant that knows your personal situation before deciding. Don’t forget to consider all of the above when you make your decision.
If you ever need help, feel free to reach out to our team.
Until next time,
Cherry Chan, CPA, CA
Your Real Estate Agent Accountant