New Budget on Passive Income – A bittersweet Outcome

As much as I disagree with Ottawa on their point of view of having “an unfair tax advantage” for small business, I am glad to see that they listened to the feedback and found a cleaner and simpler solution to close what they consider to be a loophole for small corporations, which include professional corporation (MPC).
What is?
Currently, most MPC are enjoying the small business tax rate of 15% (Ontario) by keeping the corporate income under $500,000.  This $500,000 is called the Small Business Deduction Limit.  Even if your corporation bills over $500,000, your accountant would use salary to reduce (called bonusing down) the corporate income to $500,000, so your MPC does not get bumped up to the regular business tax rate of 26.5% (Ontario).
What will be?
With the new budget, this Small Business Deduction Limit is reduced by $5 for every $1 of passive income over the $50,000 threshold.  Once your passive income reaches $150,000, your MPC will completely lose its small business deduction limit of $500,000 ($100,000 x 5).
In my experience, most MPC do not have a $500,000 income especially when most physicians are now on salary to accumulate RRSP contribution room.  For example, if you bill $400,000 per year and take $150,000 of salary, your MPC will only have a $250,000 of taxable income. That means your MPC will not be affected by this change until your passive income reaches $100,000 (or $2 mln in savings at 5% return).  Here is a table to illustrate the relationship between MPC income, Passive income and Small Business Deduction Limit.

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What to do?
Of the 23 financial plans we completed for clients in the past two months, only a couple of physician would accumulate over $3 mln  in the corporation within 10 years of practice.  Most will reach their passive income threshold after 20 years assuming that they would maximize their personal savings (RRSP TFSA RESP) and aggressively pay off their mortgage over that period. 
Until accountants and lawyers come up with other options to mitigate this tax impact, we continue to advise physicians to maximize their RRSP and TFSA so that less money would accumulate in the corporation.  Whole Life is also a Must in the corporation going forward to tax shelter investments as the growth within a Whole Life plan will not count towards passive income. 
Please feel free to reach out to us if you have any questions on the budget and how the change may affect you.

Friendly reminders:

  • Speak to your accountant about switching to salary if you are still on dividends
  • Contact us if you want to include Whole Life insurance in your Corporate investment portfolio. Whole Life insurance works better if you start at a younger age.