Are you a medical or dental professional contemplating the idea of incorporating your practice? This crucial financial decision can significantly impact your wealth management strategy. Let’s navigate through the essential aspects of this choice and address your questions along the way.
Why is incorporation a good idea for medical and dental professionals?
Tax deferral
- Incorporation is a good idea when your expenses are significantly lower than your income, a scenario common for healthcare professionals.
- Doctors and dentists often experience financial challenges during their education and internships. When establishing a practice, making the right financial decision is crucial.
- By incorporating, you gain access to small business deductions, allowing you to defer taxes with a corporate tax rate as low as 11%.
- This tax-efficient strategy enables you to leave funds in the corporation, take advantage of lower corporate tax rates, and potentially bolster your retirement savings.
- When you eventually withdraw these earnings, you’re more likely to be in a lower personal tax bracket, leading to substantial tax savings.
Income splitting
- Income splitting, a previously attractive strategy, has been impacted by recent Tax on Split Income (TOSI) rules.
- However, if your spouse or children actively contribute to your corporation, you can still consider reasonable salaries as a means of income splitting.
Lifetime capital gains exemption
For dentists and business owners, the lifetime capital gains exemption (LCGE) is a remarkable income tax provision.
- It allows eligible individuals to exempt a substantial portion of capital gains from taxation, up to $913,630 in 2022.
- The LCGE is recorded on your tax return as the capital gains deduction, found at line 254.
In a straightforward example, if a business owner sells a business with a $700,000 capital gain, they will report $700,000 x 50% = $350,000 as capital gains on line 127. Subsequently, they can claim a capital gains deduction of $350,000 at line 254, effectively utilizing $700,000 of their available exemption. This leaves them with $213,630 ($913,630 – $700,000) of unused exemption, which can be applied in the future.
What is the eligibility criteria for lifetime capital gains exemption?
- To qualify for LCGE, the shares must represent ownership of a Canadian Controlled Private Corporation primarily engaged in business activities within Canada. (CRA defines “primarily” as 50% or more.)
- Two essential rules play a significant role in eligibility:
- Over the 24 months preceding the asset disposition, at least 50% of the business’s assets must be dedicated to earning active business income. Non-active assets like shares in unrelated companies, insurance policies, and excess bank accounts do not meet this requirement.
- At the time of the sale, a minimum of 90% of the business’s assets must be involved in generating active business income.
Additionally, to maximize LCGE benefits, it’s often necessary to “purify” the business before planning a sale. Purification involves transferring inactive assets, such as non-operational investments, to the business owner or another entity in the form of a taxable dividend.
How does the Capital Dividend Account (CDA) benefit incorporated professionals in optimizing tax strategies?
The Capital Dividend Account (CDA) is a notional account that plays a crucial role in optimizing tax strategies for incorporated professionals. Credits are credited to the CDA in three main scenarios:
Tax-efficient life insurance: When a life insurance policy is purchased personally, the death benefit is typically passed on tax-free to the beneficiaries. However, when the life insurance policy is acquired within a corporation using corporate funds, especially if the Adjusted Cost Base (ACB) is nil, the death benefit can also be passed on tax-free. This strategy is most effective when the corporation is private and serves as both the owner and beneficiary of the life insurance policy.
Flexible financial planning: Shareholders have the option to take a loan from the corporation, providing a versatile financial planning tool. This loan can be used for various purposes, including making a down payment on a house. It opens doors to further tax planning opportunities and allows shareholders to maximize their financial potential.
Individual pension plans for retirement: Individual Pension Plans (IPPs) can be established through a corporation, offering tax-deductible contributions. IPPs are especially well-suited for incorporated professionals aged over 40 with a history of earning over $100,000 in T4 earnings. This approach enhances retirement planning and tax efficiency.
Tax-advantaged health expenses: Credits in the form of money can be allocated into a Health Spending Account (HSA), offering a tax-efficient way to cover eligible medical and dental expenses. Expenses paid through the HSA can be done using pre-tax dollars, similar to traditional health and dental plans. You can find detailed information on allowable expenses through the Canada Revenue Agency.
Are there any regulatory requirements and professional liability?
It’s important to note that when doctors or dentists incorporate, their respective professional colleges must be informed. Certain regulations may require a doctor’s professional corporation to be solely owned by doctors. Similar restrictions can apply to the ownership of shares in a professional corporation by a holding company or trust.
While incorporating can protect against business and operational liabilities, it may not shield against professional liability, particularly in cases involving interactions with clients or patients in a professional capacity. Obtaining professional liability insurance is typically a mandatory requirement to practice the profession.
If you are a doctor or dentist looking to incorporate, please feel free to reach out to Mehan Private Wealth. We specialize in providing expert financial advice tailored to your unique situation. To discuss how incorporation could benefit your practice and financial future, don’t hesitate to contact us today at (587) 718-8001.
Important : This material has been prepared for informational purposes only, and is not intended to provide, and should not be relied on for, tax, legal or accounting advice. You should consult your own tax, legal and accounting advisors before engaging in any transaction.
