Ouch! Another Taxing Setback...

Well, the bad news is that I underestimated my tax liability for this year. Today I wrote cheques totalling over $18,000 to federal and provincial tax departments, as well as my accountant, for her services. I only had $7000 budgeted as a tax liability so once again I am going to be taking a huge hit this month.

The good news? Well, none on the tax front. I suppose that the good news came months ago as I had my best year ever and saw my net worth increase by nearly 60% in 2006.

Additionally, I am planning a major health expense in the next few weeks which will further decimate my account balances. The good news on that topic is that the health trust I set up last year will pay for itself immediately.

So all in all, I'm feeling rather poor today. A couple weeks ago when I sold my car I was feeling quite rich. Funny how money becomes so subjective like that!

The Dividend Project - Taxation

Warning up front: this is not purely about dividends...

I met with my accountant today to discuss my adventures in investing and the best way to structure them. The short version of the meeting was: Put everything in the corporation.

Interesting highlights include:

• For corporate taxation, foreign dividends are just as favourable as Canadian dividends and this is the best kind of income for corporate (as we know it is for personal)
• Interest income is taxed more gently while it remains proportionately small compared to corporate revenue (under 50%)
• Upcoming/phased changes in the tax laws may make investing within a corporation even more attractive by 2010
• Both corporate and personal capital gains are only 50% taxable. This means that your tax rate is effectively cut in half. However, for corporate it is taxed at the high rate, so the 50% deduction basically puts it back into the low rate.
• The 50% of corporate capital gains that are not taxable are also tax free when you take them out of the corporation

We also talked about my mortgage and she was very much in favour of paying it down, although the rental income I receive from the basement suite makes this less urgent. We may look at a 5 year plan for this.

Another interesting surprise: I discussed the concept of borrowing to invest and she said that even that should happen inside the corporation.

So my two grand conclusions are:

• Put it all in the corporation and let the accountants figure out the taxation.
• Dividends are great.

The last thing she said to me was perhaps the best advice: Make sure you are doing good investing and making money rather than simply structuring for tax effectiveness.

You can say that again!

Death and Taxes

Well, I knew that last year was a good year for me...

So despite paying installments all year long, I am still facing an estimated $7000 tax bill for my company. Ouch!

I have added this to my net worth spreadsheet and this means that I will probably not see much increase in April. But now that I at least have an estimate I can look at the rest of the money in the bank accounts as truly mine and start to plan what to do with it.

The Joy of Dividends

Frugal Trader from Million Dollar Journey left a comment about dividend stocks after yesterday's post that made me want to write a more detailed response. In particular, he mentioned that dividends receive much more favourable tax treatment than other kinds of investment income.

My dilemma is that I'm not sure if the tax advantages are so significant when you own them in an incorporated company, which is where most of my investments are. "Most" of my income is already dividend income because that is the primary way my accountant has recommended that I withdraw money from my company. So my company earns consulting income, but I withdraw it as dividend income.

Now this makes me wonder whether by owning a company I am able to convert all kinds of income to dividend income. Can I earn capital gains, interest, rental income and anything else in my company and pay it all out as dividends? If that is the case, there is no advantage to earning dividend income within my company unless corporate taxation of dividends is similarly favorable. So far, I have only seen reference to personal taxation of dividends. Also, the corporate tax rate is more favorable then the individual tax rate, so any difference might not be that significant.

So if anyone knows about corporate taxation of different kinds of income, I would welcome your comments. Otherwise, I will try to ask my accountant about this when I see her at tax time this year.

The taxman cometh

Every year around this time I start to allow my corporate bank accounts to grow and I become reluctant to withdraw the money to invest. The reason during this season? I have an expectation that fairly soon I will have to write one or more large cheques to RevCan after my taxes are done.

Is this logical? A little bit but not entirely. This year I have nearly $60,000 sitting in my savings and chequing accounts (combined). Now, realistically, there is simply no way that I made so much money last year AND underpaid with my installments so much that I need a $60,000 tax cushion. I might need to top up my taxes somewhat, but I wrote installment cheques all the way to February, so I should be in even better shape this year than last year when I stopped at November (I don't usually see my accountant until February or March).

Of course, things could be even better if I had some way of keeping track of things to know approximately how much tax I will have to pay. Ideally I shouldn't be keeping such a large cushion in low or no-interest accounts. If I were to run things more like a "real" business I'm sure that putting money to work would be a number one priority. Hoewever, I don't have an accountant to look after things for me, so I need to balance my perfect strategy with practicality in terms of time requirements. I will add this to my list of questions for my accountant in hopes that I can start to run with a lower bank balance and invest my money more profitably.

Today's billable hours: 5.5 + 5.0 (flat rate project)
Today's contracted hours: 0.5