7 Apr

Can Investing in Real Estate Through a Corporation Reduce Your Tax Bill?

Mortgage Tips

Posted by: Kim Seifert

Can Investing In Real Estate Through a Corporation Reduce Your Tax Bill?

Quick Answer “No”…

Can Investing In Real Estate Through a Corporation Reduce Your Tax Bill? — Common Mistake, because people look at tax rates as active business income (for example: 12.2% on the first 500k and 26.5% thereafter in Ontario) and then compare them to personal rates which exceed 26% at over $53,000. IMPORTANT POINT: Rental income is not considered active business income. It’s considered passive investment income, which is instead taxed at 50.2%, a rate that the personal tax brackets in Ontario don’t exceed until you hit over $235,675.

Rental Income Paid Out As A Dividend?

Paying your rental income out as a dividend to yourself — there is a system called integration built into the tax code that results in you paying about the same amount of tax corporately and personally as you would have had you owned the property personally. So in the end, it’s basically a tax-neutral play, that comes with a higher cost of tax filing.

Now does that mean incorporation is pointless? Well no, there is the added benefit of creditor protection to consider in that if a tenant or vendor sues you, they will sue your corporation. Protecting your personal assets not held in the corporation. But overall, the real estate holding company being a tax play is nothing but a myth in Canada.

Dividends From Canadian Corporations Are Tax Preferential (ie: you pay less tax than income on them).

To understand this concept you need to first understand two things:
1. Dividends are paid from after-tax corporate profits.
2. Corporate Taxation is based on a concept called ‘integration.” Integration’s key principle is that no matter how much money comes out of a corporation, the tax result is the same. To demonstrate how this all comes together, let’s compare bondholders being paid interest to shareowners being paid dividends.

Interest: Is tax-deductible to the corp and fully taxable to the bondholder as income. For example, in Ontario, this means a tax bill up to 53.53%. Therefore for every $100 paid in interest, the government collects up to 53.53% and leaves you with as little as $47.47.

Dividends: Come out of after-tax earnings. That means $100 pre-tax pays corporate tax first before it comes out as a dividend. Rates vary based on the province, but let’s assume 26% for a publicly-traded Canadian Corporation. That means the $100 pre-tax is $74 after tax that can be paid as a dividend. Once received the individual pays tax on the dividend through a system that involves a gross-up and a credit. This is intended to reflect the fact that the corporation already paid some tax and give you credit for it. The end result, you receive $74 and pay up to approximately 37% and leaves you with as little as $47.47. The exact same as fully taxable interest! In the end, the government gets the same amount of money and so do you.

Why should I Care What The Corporation Paid In Tax? If you paid less tax, they could pay you a larger dividend equal to the tax savings and have no adverse impact on the business. However, if that was the case then tax rates would be adjusted and it would still equal the same. Arguing that corporation taxes don’t matter is like arguing it doesn’t matter that someone ate a quarter of your pizza before it was delivered to you. With pizza, you can see the difference. With a dividend, you don’t but that doesn’t mean a portion is not gone.

Foreign Dividends: Is considered fully taxable income. However, it can be even higher than 53.53% for stocks traded in countries in which Canada has a tax treaty – any withholding tax paid on dividends by their companies / you typically receive credit for that withholding tax / which then reduces your Canadian tax bill by the same amount. For stocks traded in countries without a tax treaty, it could result in no recognition of withholding tax and a higher total rate of taxation than the top marginal.

In Canada There Is No Cheap Way To Get Money Out Of A Corporation:
Interest = Fully Taxable
Dividend = Integrated to the same as Fully Taxable
Foreign Dividends = Fully Taxable (and maybe worse)
REIT Income Distribution = Fully Taxable
Employment Income = Fully Taxable

The only real break in income taxes is on Capital Gains which are half taxable currently in Canada. More Here:

If you are over 65 and receiving OAS, dividends are the worst form of income to receive. The problem is OAS is clawed back at a rate of 0.15% on incomes above ($81,761 in 2022). The problem is this threshold is based on gross income. Dividends get grossed up by a rate of 38% meaning that $1.38 of gross income is added to this test. While you get a credit later on for tax purposes, it doesn’t help with the OAS clawback. Simple example: income of $82k + dividends of $10k. This will cost you $2,070 in OAS. Which means, for those in the clawback zone, the effective tax rate on dividends is actually 15% higher than other forms of fully taxable income.

Does it help if these dividend paying stocks are reinvested ie through a drip? How about held in a TFSA?

Drip: No, still taxable.

TFSA: Corporation tax still applies and you may be worse off with foreign dividends as the tax treaty may not recognize TFSA’s. This is the case with US stocks; meaning you are subject to withholding tax and don’t benefit from the foreign tax credit.

Article Source: Jason Pereira @jasonpereira – This is one of the best threads I have seen on this topic. Well laid out, explained at a level even the casual investor/ rental property owner could follow and understand. It was too good not to share here.