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Salaries To Family Members
A common tax planning tool is to pay reasonable salaries to family members. If done correctly, it results in income splitting which reduces the overall family tax bill and creates RRSP contribution room to the recipient of the salary. Income splitting is an effective tax planning tool to take advantage of the different marginal personal income tax rates at different income levels. By splitting income amongst individual family members, tax savings results by taking advantage of multiple lower personal tax bracket rates. Click HERE for tax rates at various personal income levels.
Careful planning with a Chartered Accountant is warranted. Contact Keith Anderson CA at (780) 447-5830 if you need advice.
Some Problems
If not done correctly, all of the tax advantages are lost and can also result in double taxation (not deductible to the business but an income inclusion to the recipient).
First the salary must be paid to the employee. This is a common mistake. The shareholder often will draw out funds from the business and then every year prepare a T4 to the family member for their share. CRA may not accept this. The paper documentation either through a T4 or by journal entry in the accounting system may not good enough. The amount must be paid directly to the family member. In absence of this, CRA may accept a preponderance of documentation such as the combination of a T4, a directors resolution, and a journal entry.
Second, the salary must be reasonable. Again this is a common mistake. The salary must be justifiable based on the duties performed by the family member in the business compared to what the business would have paid an unrelated party for the same services. This should be determined and documented before the business starts paying the family member. Retroactively determining the duties and an arms-length rate is dangerous and often not a successful way to defend the amount paid.
If you are uncertain that the salary you want to pay is "reasonable", consider paying family members through an Employee Profit Sharing Program. Click HERE for more.
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