For incorporated Ontario physicians, building up cash inside a professional corporation can create a new question: should some of that money be invested?
Investing through a corporation can be an effective part of a long-term financial strategy, but corporate investments are taxed differently from investments held personally. Understanding those differences can help physicians make more informed decisions about what to retain, what to invest and what to withdraw.
Corporate Investing vs. Personal Investing
When an Ontario physician earns professional income through a corporation, funds remaining after corporate taxes and business expenses may potentially be retained for future needs or invested.
This can provide a tax-deferral opportunity in certain circumstances because the physician may not immediately pay personal tax on money that remains inside the corporation.
However, tax deferral isn’t the same as tax elimination. Investment earnings generated inside the corporation are subject to Canadian corporate tax rules, and tax may also arise when funds are eventually distributed personally.
That makes corporate investing part of a larger tax and compensation strategy.
Different Investments Can Produce Different Tax Results
A corporate portfolio can earn several types of income, including:
- Interest, such as income from certain savings products, GICs and bonds.
- Dividends, including dividends from Canadian corporations and foreign investments.
- Capital gains when investments increase in value and are sold.
These forms of income are not necessarily taxed the same way inside a private corporation.
For example, Canada’s corporate tax system includes refundable tax mechanisms for certain investment income. Depending on the circumstances, some corporate taxes may become refundable when qualifying taxable dividends are subsequently paid to shareholders.
Capital gains have additional considerations, including their potential impact on a private corporation’s capital dividend account (CDA), while eligible and non-eligible dividends may affect its general rate income pool (GRIP), non-eligible refundable dividend tax on hand (NERDTOH) and eligible refundable dividend tax on hand (ERDTOH) balances.Subject to the applicable rules and elections, a positive CDA balance may potentially allow capital dividends to be paid tax-free to Canadian-resident shareholders.
Because these rules interact, investment decisions should not be based solely on the investment’s headline rate of return.
Watch the Passive Investment Income Rules
Passive investment income can also affect access to the federal small business deduction.
Under current federal rules, the $500,000 federal small business limit generally begins to decrease when adjusted aggregate investment income of an associated corporate group exceeds $50,000 in the preceding taxation year.
The federal business limit can generally be eliminated once that amount reaches $150,000, assuming no other reductions apply.
For physicians accumulating substantial investments inside a professional corporation—or an associated corporation—this can become an important tax-planning consideration.
Provincial treatment should be examined separately rather than assuming every provincial rule produces the same result as the federal rules.
Your Investment Mix Matters
Tax shouldn’t determine an investment portfolio by itself. Risk, diversification, time horizon and financial objectives remain fundamental.
But tax characteristics shouldn’t be ignored either.
A portfolio generating primarily interest income may create different corporate tax consequences from one producing eligible Canadian dividends or capital gains.
As corporate investments grow, it can therefore be useful to review both investment performance and after-tax performance.
Invest Corporately or Pay Yourself?
Another important decision is whether excess cash should stay inside the corporation or be withdrawn personally.
There isn’t one answer for every physician.
Salary and dividends can have different personal and corporate consequences. For example, salary can generally create RRSP contribution room, while dividends generally do not.
Conversely, withdrawing additional corporate funds simply to invest them personally could trigger personal tax sooner than leaving funds in the corporation, depending on the circumstances.
The goal is to coordinate your corporate investments, personal cash needs, compensation and long-term savings strategy rather than considering each separately.
Keep Enough Cash Available
Investing every available corporate dollar can create unnecessary risk.
Your corporation may need cash for taxes, payroll, equipment, insurance, professional fees or unexpected practice expenses.
Before investing significant corporate funds, consider how much liquidity the practice needs and how quickly investments could be converted back to cash if required.
Does a Holding Company Help?
A holding company may be useful in certain circumstances, but it isn’t automatically a tax-saving solution.
For example, a properly structured holding company may help separate certain investment assets from operating activities. However, corporate association rules, passive investment income and the costs of maintaining another corporation must all be considered.
Simply transferring investments to an associated holding company generally doesn’t make the federal passive-income rules disappear.
For Ontario physicians, any structure involving a medical professional corporation must also comply with applicable professional and legal requirements.
Avoid Looking at Corporate Investments in Isolation
Corporate investing works best when it’s considered alongside the physician’s broader financial picture.
How much cash does the practice need? How much income does the physician need personally? What are the retirement objectives? How could passive investment income affect corporate taxation? And eventually, how will accumulated corporate wealth be withdrawn?
Those questions can be more important than simply asking which investment account to open.
Build a Tax Strategy Around Your Professional Corporation
If your Ontario professional corporation is accumulating cash, it may be time to review how investing fits into your broader tax strategy.
Visit MedTax.ca to book a free 30-minute consultation and explore the tax considerations relevant to your professional corporation.
