Untitled Document

Corporations in Canada
Should Not Pay Any Income Taxes

by Jack Moore, CA.

Jack Moore has been a practising Chartered Accountant in southern Ontario for 40 years. He has been a consultant/hand-holder to small businesses including two years as the comptroller of The Institute of Chartered Accountants of Ontario (ugh). He also spent two years as vice-president and general manager of a small national manufacturer/retailer.

This is rather a bold statement and it goes against all current dogma. Taxes are a creature of Government and as such are imposed to satisfy the demands of some of the public (special interest groups) and of those who try to redistribute wealth (bureaucrats).

There are three types of corporations that pay taxes: public, private and foreign-owned. There was a fourth type many years ago known as a personal corporation.

Public corporations are owned by many shareholders and operated by their director/officers, who may not necessarily be shareholders, at least not of significance. Their continued employment is dependent upon their ability to keep the corporation profitable, to pay a consistent dividend and to maintain the confidence of the owners. The dividend is usually set so that a portion of the cash earnings (profit for the year after taxes) of the year are retained to finance future growth and inflation. The shareholders, be they corporations or individuals, look to the dividends as earnings in just the same manner that the employees, all of them, look to their wages and salaries, and they both serve the same purpose: to put bread on one's table. The public corporation pays taxes at a rate of about 50 percent on its profit for the year, thereby leaving 50 percent for dividends and the financing of future growth and inflation. It is permitted to deduct various legislated expenses from revenues in computing that profit for the year. The recipient of the dividend pays another tax on it when it is received.

Private corporations usually have very few shareholders. In fact, they are generally owned by a family or a group of individuals who band together for mutual profit. They tend to be their own directors while often hiring expertise (financial, selling, production) that does not exist in the group. Those shareholders who are employed by the corporation receive dividends from time to time on the same basis as public corporations. The private corporation pays taxes at a rate of about 20 percent on its first $200,000. of profit for the year and about 50 percent on the balance (if any). It is permitted to deduct the same legislated expenses in computing its profit for the year as the public corporation. Again the recipient of the dividend pays another tax on it when it is received.

The foreign (non-resident) owned corporation is a little bit different. Depending on Agreements between our government and that of the owner, the computation of profit for the year and taxes thereon are similar to the public corporation. However, when dividends are paid to the shareholders, a tax is collected at that time.

The old time personal corporation was structured so that all of the profit of the year was taxed that year as personal income of the shareholder(s). The off-set was a limited liability environment. The owners had the benefit of a corporation structure while being taxed as partners (or as a proprietor). Dividends were not taxed.

It is important to understand that business profits for the year earned by a person or by a partner are taxed as ordinary income in that year. The same legislated expenses are available in computing that profit.

There is a second tax on the distribution of corporate after-tax profits (dividends). They are included in the taxable income of the recipient in the year of receipt. Canada is one of the very few countries that tax dividends at a rate which is less than that levied against wages, salary and business profits. Attempts have been made by various governments from time to time to equate the reduction of tax on dividends to that tax paid by a private corporation on its profit for the year which fell into that $200,000. bracket. The reduction is exigible to all dividends from Canadian taxable corporations.

There is a pervasive public and bureaucratic belief that corporations are money machines and should not only pay far more in taxes but should also guarantee lifetime employment, with every conceivable benefit, to every employee; that the owners of corporations are anti-labour and only profit motivated. In fact, a successful and ongoing corporation will exist just so long as owners and employees work together for their mutual benefit, for the corporation is nothing but an extension of the efforts of the two groups.

Our tax system depends upon money being taxed each time it changes hands. In that fashion each occurrence of earning is taxed once. Corporate profits are taxed partly at the corporate level and thereafter at the personal level when a dividend is paid. Sometimes the dividend is not paid (and not taxed). If the corporation loses money then that amount available for dividends is offset by the losses and is no longer available. The unpaid dividends represent a further investment by the shareholders in their corporations. Investments are made from tax-paid (or after tax) money. Ergo, corporations should not pay taxes but all profits should be taxed each year as though they were distributed to the shareholders. The existing tax benefit on dividend income should be abolished. If the corporation requires money for growth and inflation then it should be obtained from the shareholders as either interest bearing loans or capital stock (common or preferred shares).

The effect of moving the corporation tax immediately to the shareholders where it belongs would be to speed up the collection of the taxes, put shareholders on a footing equal to the rest of the investing community, reduce the size of the Income Tax Act of Canada by 50 percent and reduce the Revenue Canada bureaucracy by a similar percentage. Long live the personal corporation.