In this blog, I’ll be discussing the various ways that dentists can save $$$ by using a dentistry professional corporation.
1. Income Splitting with your Family Member as an Employee
All things being equal, a person who earns $100,000 as employment income will pay about $27,000 in federal and provincial income taxes in 2011. But if that income were equally split between two people, each would only pay about $8,900 in taxes (or about $17,800 in total taxes). That’s almost $10,000 in tax savings. And it’s all done through income splitting. So how can a dentist income split with their family through a corporation?
First, a dentistry professional corporation can hire a member of their family (e.g. husband, wife, child, etc.) to work as an employee of the dental practice. So long as the payment is reasonable in light of the ACTUAL services provided (e.g. receptionist, office manager, marketer, website designer, etc.), then the dentistry professional corporation will be allowed to deduct those expenses in determining its net income. So the corporation received revenue from patient billings and, before paying tax on those billings, was able to deduct an amount as an expense. The family member employee will be taxed at their full marginal rate on the employment income they received. Now, assuming that the family member was in a lower marginal tax rate than the dentist, then this form of income splitting would work (as long as the amount paid for the services was REASONABLE).
2. Income Splitting with your Family Member as a Shareholder
Now, another way to income split with your family is by issuing them shares of your dentistry professional corporation and then declaring and paying dividends. The corporation would end up paying 15.5% income taxes on the first $500,000 of active business income (you can read up about this on my blog) and, from the retained amount, could pay up to $40,000 of dividends to a family member. If the family member didn’t earn income from any other source, then they would end up paying very little tax on the dividends they receive. You can read up more about dividends and paying little or no tax on dividends in this blog.
3. Repaying a Corporate Loan
If you, as a dentist, took out a business loan in your name and had to repay it, then you’ll need to repay it from after-tax dollars. Well, if you earned $100,000 in 2011 and paid the $27,000 in federal and provincial taxes (and we’re not even considering Canada Pension Plan contributions or Employment Insurance premiums!), then you’d only have about $73,000 of disposable income left in your pocket to repay your loan. But what if the dentistry professional corporation earned the $100,000 instead (as active business income) and paid 15.5% income tax on that amount? The corporation would then have $85,000 of disposable income left, which it could use to repay a corporate loan! Get it! So it’s cheaper to have the dentistry professional corporation take out a business loan than it is for a dentist to take it out personally. This way, the corporation would have more funds available to repay the loan. Remember: the loan is not a deductible expense to the corporation; only the interest is so long as the loan is used for business purposes (e.g. buying equipment, leasing space, paying employees, paying for marketing, etc.).
4. Lifetime Capital Gains Exemption
I’ve spoken at length about the lifetime capital gains exemption. Basically, if you’re a dentist and you’re looking to sell your practice, you can take advantage of the lifetime capital gains exemption on the sale of shares of a small business corporation. You essentially pay little or no capital gains tax up to a certain limit on the sale of the shares (currently: $750,000). You can even multiply the capital gains exemption by using your family members (e.g. by issuing common but non-voting shares to your spouse and adult children). This is a huge tax-saving opportunity for dentists looking to sell their practice.
5. Employment Contract with $10,000 Tax-Free Death Benefits
I’ve blogged about this topic quite extensively. When you set up your corporation, you’ll need to have some kind of relationship with the corporation in order to conduct business on its behalf. Most likely, the dentist will be an officer, director, and employee of the corporation (unlikely to be an independent contractor). Well, it’s a good idea to have the corporation enter into an employment agreement with you that provides for your dentistry professional corporation paying out up to $10,000 to your beneficiary of tax-free money at the time of your death. Here’s how it works:
When a dentist dies, designated recipients can receive a $10,000 tax-free death benefit. Here’s how it works. Assume that a dentist has a professional corporation. In recognition of the dentist’s service as an officer, director, or employee, the professional corporation agrees to pay the dentist’s surviving spouse $15,000 on or after the dentist’s death. This is called a “death benefit “. Now, section 56(1)(a)(iii) of the Income Tax Act says that the surviving spouse must include, for the purposes of calculating their taxable income, any “death benefit” they receive (i.e. $15,000) minus $10,000 (this is how “death benefit” is defined in section 248(1) of the Income Tax Act). As such, the surviving spouse ends up paying no tax on the first $10,000 they received from the dentistry professional corporation as a death benefit. They would only be taxed on the remaining $5,000 death benefit.
If the death benefit is not paid to the dentist’s surviving spouse or common-law partner, then the first $10,000, net of the death benefits received by the surviving spouse or common-law partner, is not included in the recipient’s income. For example, if a deceased dentist’s surviving spouse received a death benefit of $6,000 and a surviving child received a death benefit of $6,000, then the entire $6,000 received by the surviving spouse would be tax-free whereas only $4,000 of the $6,000 received by the child would be tax-free. The idea is that the recipients of the death benefit must evenly split the $10,000 exemption which the employee’s surviving spouse or common law partner have not used.
Worth mentioning is that any payment made out of a superannuation or pension fund or plan cannot qualify as a death benefit; furthermore, “death benefits” received under the Canada Pension Plan do not qualify as death benefits for income tax purposes.
6. Double Wills to save on Estate Administration Taxes
I’ve blogged about this quite extensively. The bottom line is that you can save on paying estate administration taxes by having two wills: one will for your assets that do not include your dentistry PC shares and another will that deals only with those shares. If your shares are worth $1-million, you will have saved $14,500 by using multiple Wills!
If you’re wondering whether incorporation is right for you, you should speak with an accountant and a lawyer. There is a myriad of considerations (e.g. expenses, administration, etc.) and rules that would affect the decision to incorporate.