Excerpt from The Professional Corporation – What Does It Mean To Bonus Down?
When corporate income exceeds the small business deduction limit, most accountants in the past would have recommended that a bonus be paid out to reduce the taxable income to that amount. In 2010, the small business deduction limit (in most jurisdictions) was $500,000.
Let’s look at this a little more closely. Suppose your pre-tax income, after all expenses have been written of, is $650,000 and you live in, say, Saskatchewan. If you leave the entire amount in your professional corporation, you will pay tax on the first $500,000 at the low corporate rate of about 15.5 per cent and a higher rate of 30.0 per cent on the next $150,000.
If you take $150,000 as a bonus, the company gets a deduction in the current fiscal year and this income is not exposed to the higher corporate rates. If the amount is left in the corporation, it will be taxed at the higher rate.
What if you don’t have enough cash to pay out a bonus? You can declare a bonus at any time via a corporate resolution up to the Fiscal year-end. Often the bonus is recorded as a bonus payable on the financial statements of the company and must be paid out, within 179 days of the year-end. At the time the bonus is paid out the appropriate source deductions must be remitted to the CRA.
In my previous example the income amount was $650,000. Let’s say that the professional corporation’s year-end is August 31. A bonus is declared in August and the appropriate corporate resolution is made stating that the bonus will be $150,000. The bonus is recorded in the books as a bonus payable. The bonus is paid out in January of the following year. The company has a deduction for $150,000 in the current Fiscal year (say 2010) and you have an income inclusion in the following year (2011). But what if you still don’t have the cash? The company can borrow the money, pay out the bonus, including the appropriate deductions, and then you can put the after-tax money right back into the company as a shareholder loan.
You do not declare the bonus money as income until 2011. However, in order for the bonus to qualify as a write-off for the company in the previous year, the income tax on the bonus must be paid when the bonus is paid out. This remittance of tax is due with the next regular remittance.
One important thing to note is that this only works if your professional corporation’s year-end is after June 30.
At a later time, when the company has extra cash, you can remove the money you put back in the company tax-free by paying off the shareholder loan.
With the introduction of eligible dividends (see eligible dividends on page 181) in 2006, the question of bonusing down doesn’t seem to be as clear.
The decision to bonus or not will ultimately depend on whether you need funds personally. If the answer is “no” then there is a very compelling argument to not bonus. Of course, not bonusing will come with some downsides (such as increased corporate income tax installments, and increased cash in the company) but such cons can be easily dealt with by way of good cash management and additional planning.