At What Income Should I Incorporate in Canada?

In this article, Toronto business lawyer, Antonio DiMinno of DiMinno Rizzi Lawyers, answers the question: “At what income level should I incorporate in Canada?”

Have you ever wondered at what income level you should consider incorporating your business? Picture this: You’re a small business owner in Canada, working hard to make money. However, a big chunk of your earnings disappears due to high income taxes. If you’re in the highest income bracket, you could lose a whopping 54% of your income to taxes! That’s a lot of money down the drain.

Now, here’s the exciting part. There’s a secret weapon called “incorporation” that many people don’t know about. Instead of losing $54 out of every $100 you earn, you could keep a cool $88, depending on where you live and how your business is set up.

But before you get overwhelmed, don’t worry – we’re here to help. In this article, I’ll explain how incorporation can save you money and make your business thrive. Are you ready to take control of your finances and make your business even better? Keep reading to find out how!

Key Takeaways

Here are some key takeaways from this guide:

• Incorporation can drastically reduce your income tax rate. Instead of paying up to 54% in personal taxes, incorporated businesses can pay as low as 12-15%, depending on the province. This means more money stays in your business for reinvestment.
• There’s no fixed income level for when you should incorporate. The decision depends on your business profits and how much you need to withdraw for personal expenses.
• Incorporation offers other financial advantages like income splitting, lifetime capital gains deduction, and limited liability, which protects your personal assets.
• Your lawyer and accountant can help you determine if incorporating is right for you, based on your unique financial situation and business goals. To avoid expensive mistakes, always hire a business lawyer when you are looking to incorporate. No exceptions!

How Much Tax Do I Pay When Incorporated?

Incorporating your business in Canada offers numerous advantages.

One of the most notable benefits is the significantly lower income tax rate. In Canada, personal income tax rates can soar as high as 54% for individuals in the highest tax bracket. However, it’s different for incorporated small businesses. Depending on your province, you’ll typically face a more favorable income tax rate ranging from 12% to 15%. This translates to your business retaining $88 for every $100 earned, instead of just $46. This surplus corporate income can then be reinvested into your business, propelling it towards greater financial success. It’s like giving your business a turbocharged boost!

How Can I Save Taxes by Incorporating in Canada?

Many of our clients often ask us, how can I save taxes by incorporating a business in Canada? While your accountant is the best person to break down the numbers for you, let’s explore an example from one of our clients.

Meet Gino, the owner of a plumbing company in Calgary, Alberta. Gino is considering incorporating his business. Currently, his company operates as a sole proprietorship, earning an annual revenue of around $200,000. Gino’s yearly business expenses, including advertising and plumbing supplies, add up to about $25,000. As a single individual, Gino relies solely on the income from the plumbing business, with personal living expenses totaling approximately $40,000 per year.

If Gino incorporates, his company will pay $14,291.00 less compared to the current setup. These savings in the first year not only cover the one-time incorporation fee, but also continue to benefit Gino each and every year.

Incorporation offers significant tax savings that recur year after year, with just a one-time incorporation cost. In addition, it provides other tax benefits, such as a lifetime capital gains deduction, income splitting with family members in the business, and leveraging insurance to further reduce your tax obligations. We’ll delve deeper into these additional tax advantages in our upcoming article, Tax Benefits of Incorporation

At DiMinno Rizzi Lawyers, we’ve assisted businesses like Gino’s in incorporating and saving substantial amounts in taxes over time. To learn more, check out our article, How To Save Taxes by Incorporating a Business in Canada

Will I Pay Less Tax if I Incorporate?

Once you’ve discovered that incorporating can cut your tax bill, the big question is: “Will I pay less tax if I incorporate?” In other words, will incorporating actually save YOU money, considering your unique finances?

In our experience, most of our clients end up with lower tax bills after they incorporate. Even those making less than $50,000.00 in business income have found value in incorporation.

However, it’s vital to understand that incorporating doesn’t automatically mean lower taxes for everyone. Here’s the deal: when you operate as a corporation, you’ll face a corporate tax rate of about 12%. But if you choose to withdraw the money left after corporate taxes as a salary, you’ll also be on the hook for personal income tax on that salary.

Let’s take an example. Laura, one of our clients, owns a pet business in Ajax, Ontario, operating as a sole proprietorship. Her pet store brings in $150,000 in revenue annually, while her yearly expenses for inventory, rent, and marketing amount to around $40,000. As a single person, Laura relies entirely on her pet store’s income to cover her personal expenses, which come to about $30,000 each year.

Now, if Laura decides to incorporate, she’ll face a corporate tax rate of 12% on the pet store’s profits. However, when she takes money out of the corporation as a salary, she’ll also be responsible for personal income tax on that salary.

So, while incorporation can offer potential tax benefits and savings, it’s important to remember that you’ll still have taxes to consider at both the corporate and personal levels. To learn more, check out our article, “Will I Pay Less Tax If I Incorporate?”

At What Income Level Should I Incorporate?

This brings us to the ultimate question of this article, “At what income level should I incorporate?”

Unfortunately, there’s no one-size-fits-all answer to this question. It hinges on your company’s profits and how much you need to withdraw from your corporation as a salary to cover your personal expenses.

In our perspective, it’s not just about how much your business earns that matters most. The critical question is, “After corporate income tax, how much do I need to take as a salary?” The more you can leave within the corporation, the more you save on taxes.

Let’s look at two examples to illustrate this:

Example 1: Low Income, High Retained Earnings

Jessica, a client of DiMinno Rizzi Lawyers, runs a pub in Ottawa. She earns a profit of $70,000. After a 12% corporate tax on this income ($8,400), Jessica, who lives modestly, withdraws $15,000 to cover her living expenses. Personal taxes, including CPP/EI premiums, amount to $1,000. After all taxes, Jessica has approximately $47,000 left in the business for reinvestment or future withdrawals. By incorporating, Jessica saves $7,700 in taxes this year.

Example 2: High Income, Low Retained Earnings

Tania is the owner of an investment advisory firm in Toronto. Her company generates a profit of $200,000. Unfortunately, Tania spends all of her earnings on her living expenses, which include a luxurious downtown apartment, dining at upscale restaurants, and wearing designer clothing.

So, Tania’s company gets taxed at the 12% corporate tax rate on the $200,000 profit. This leaves $176,000 in the corporation. But, she needs to cover her extravagant lifestyle, so she withdraws all of the $176,000 as a salary. Tania pays another $60,000 in personal income tax on the $176,000 salary. In total, Tania pays about $84,000 in taxes.

Had she not incorporated, Tania would have paid a total of about $71,000 in taxes. So, after incorporating, Tania is paying $13,000 MORE in taxes this year, plus ongoing incorporation costs of $3,000 per year. Tania would have been better off without a corporation!

Clearly, there isn’t a fixed income threshold that dictates when incorporation becomes advantageous. It all boils down to how much you draw from your business as a salary. Your lawyer and accountant are your trusted allies in deciphering whether the financial puzzle aligns with your goals.

Should I Incorporate Now or Later?

When considering incorporating in Canada, it’s crucial to understand both the advantages and expenses involved.

Starting a corporation in Canada isn’t without its costs. There’s an initial fee for the setup, which falls under incorporation costs, and every year, you’ll have ongoing costs like completing specific tax forms and adhering to certain rules. In addition, the costs vary slight on whether you start a Named Corporation or a Numbered Corporation. To learn more, check out our article,  “How Much Does It Cost to Incorporate in Canada?”

Business incorporation benefits are numerous. One of the primary advantages is tax savings and deferral. Some business owners choose to delay incorporating until their earnings are substantial enough to benefit from these tax breaks. However, income splitting is another advantage that can be utilized once you incorporate.

If you transition from a sole proprietorship or partnership to a corporation after your business is already thriving, you might face additional costs. This could include transferring assets or taking on new responsibilities. Such a shift often requires guidance from an accountant and legal advice from an business lawyer. If you decide to incorporate from the outset, you will sidestep these extra expenses.

Limited liability is a significant benefit of incorporating. It offers protection for your personal assets right from the start. Moreover, the lifetime capital gains exemption and estate planning are other benefits that come with incorporating in Canada. Given these advantages, it might be wise to incorporate sooner rather than later.

To learn more about the advantages and disadvantages of incorporation, check out our articles,  “What Are the Advantages of Incorporating a Business in Canada?” And “Disadvantages of Incorporating a Business in Canada”

How an Incorporation Lawyer Can Help

When considering whether you should incorporate a business in Canada, a crucial first step is to speak to an incorporation lawyer.

At DiMinno Rizzi, our incorporation lawyers will work closely with you to ensure that your company is sailing in the right direction!

Disclaimer: All number figures are approximate only and may be subject to change. Like all material on this website, this is not financial, legal, or tax advice. Contact a professional for your specific situation. 

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