Many doctors use their practice to enjoy the same benefits as other self-employed professionals. They often undertake small business accounting. However, recent tax proposals affecting Canadian private companies may have significant implications for doctors with a professional company or for doctors considering setting up a company.
How can you, as a doctor, actually plan small business taxes?
Pay for business expenses that are not deductible by the company
Provided this does not benefit shareholders, it can be beneficial for a professional company to pay certain non-deductible business costs, such as life insurance premiums and entertainment costs. Using corporate profits taxed at lower corporate rates than the more expensive after-tax personal dollars is a more cost-effective way to finance this type of expense because lower pre-tax income is required to cover the costs.
Creating a professional society offers physicians additional reward opportunities. This is what anyone who knows good small business accounting would recommend. Physicians will often receive sufficient salaries from their companies to make the maximum contribution to their registered retirement savings (“RRSP”) each year. If additional money is needed to support their lifestyle, the company can pay additional income in dividends.
Sharing of earnings
Before the recent extension of the “Split Income Tax” or “TOSI” rules, in effect for 2018 and subsequent tax years, doctors often used the professional company to facilitate the distribution of income with family members. This is because governing bodies in many provinces allow doctors to include their spouses, children, and even parents as shareholders in their professional company, which allows them to pay dividends. The family’s total tax rate was reduced to the extent that these family members (aged 18 and over) were taxed at lower marginal tax rates.
Postpone the personal tax
When taking care of small business accounting, deferred personal income tax becomes one of the main reasons professionals incorporate their businesses. The active business income held in a professional company (which is not a “personal service enterprise” – that is, an employee registered in the commercial register) is taxed at the rate of the small business corporation tax1,2 or all general corporate tax rate, both of which these rates are significantly lower than the highest personal income tax rate. For example, in Alberta, the federal/provincial combined corporation tax rate for small businesses for 2018 is 12% of the first $ 500,000 of earnings, and the combined general corporation tax rate is 27%. At the same time, the combined maximum personal income tax rate is 48 percent.
Capital gains exemption
Capital Gains Exemption (“CGE”) for qualifying small business shares may be available for the sale of shares in a professional corporation or upon the death of a shareholder with a lifetime exception of $ 848,252 (for 2018). However, shares may not be eligible if significant non-commercial activities have accumulated in the company because certain asset tests and holding periods must be met to obtain an exemption. Additionally, the availability of a capital gains waiver may be limited for doctors because they are often unable to sell their studies. Although a sale is possible, the buyer would generally prefer to acquire the assets of a professional company rather than stock. Ask your BMO financial professional for a copy of our Small Business Tax Planning article for more information on CGE qualification criteria.
Suppose you are otherwise suffering from personal debt, such as a mortgage or line of credit. In that case, you may instead be able to borrow short-term funds from your business for less than BMO Wealth Management Tax Planning for Physicians – Professional Corporation PAGE 2 your current staff costs debt financing. If you take a shareholder loan from a company for this purpose, no immediate tax is payable; however, the loan must generally be repaid within one year of the end of the company’s fiscal year in which the funds were withdrawn. Suppose the loan is not repaid within this period (or is repaid and subsequently reallocated). In that case, it will be included in your income and is subject to the marginal personal income tax rate.
While a professional company does not mitigate professional liability (such as an unfair practice action or negligence), it can provide some protection against business creditors making claims against a professional company.
As a result of recent tax changes affecting private companies, professional companies’ tax advantages can be significantly reduced. Additionally, there are the initial incorporation and ongoing tax returns, administrative costs and complexity associated with setting up and maintaining a professional company, and payroll taxes in some provinces for consideration. Newly introduced tax legislation can influence the planning done by many doctors in professional bodies and influence decisions to include those not currently enrolled. This article provides a brief overview of the benefits of running your practice through a professional company and the possible consequences of recent tax changes; however, it is important to seek independent legal and tax advice regarding your specific situation
Managing your practice through a professional company that can handle your small business tax can offer many advantages. Still, it involves additional complexities and tax aspects, especially in light of the recent tax changes affecting private companies. Due to the potentially reduced tax advantages and other complexities associated with the company (because each provincial governing body has its own rules and requirements), we encourage you to consult an independent tax and legal advisors regarding management in your particular situation.