What Is the Canadian Dividend Tax Credit?
Canadian residents who hold shares in a corporation may receive profits from those shares, called dividend income. The dividends are reported on annual tax returns, and taxpayers may be eligible to receive the Federal Dividend Tax Credit, a non-refundable credit that reduces the total tax owed.
Key Takeaways
- Canadian residents apply for dividend tax credits against tax liabilities on dividends received from Canadian corporations.
- Corporations designate dividends as eligible or other than eligible.
- Dividend tax credits offset double taxing since dividends are paid to shareholders with a corporation's after-tax profit.
Understanding the Canadian Dividend Tax Credit
Corporations designate dividends as eligible or other than eligible. Eligible dividends an individual receives from Canadian corporations are "grossed up" by 138%. The gross-up rate for non-eligible dividends is 115%. A gross-up is an increase to account for applicable taxes.
If a company pays $20 dividends per share, investors will claim $20 x 1.38 = $27.60 per share, and the Federal Dividend Tax Credit will partially offset this gross-up. The grossed-up amount is included in the taxpayer’s income tax form as taxable income. Canadian federal and provincial governments grant individuals a dividend tax credit to offset the grossed-up amount, which helps to reduce the actual tax payable.
Dividend tax credits are non-refundable credits to offset double taxing since dividends are paid to shareholders with a corporation's after-tax profit, and the dividends received by shareholders are also taxed.
Formula and Example
Assume Susan Smith has an effective tax rate of 25%. She received $250 in eligible dividends and $200 in non-eligible dividends during the tax year. To calculate the federal dividend tax credit, she has to gross up the total dividends she receives by the percentage specified by the Canada Revenue Agency (CRA). In this case, the percentages are 138% for eligible dividends and 115% for non-eligible dividends.
- = ($250 x 1.38) + ($200 x 1.15)
- = $345 + $230
- = $575
Susan reports $575 as taxable income. Since her effective tax rate is 25%, her tax on this income will be:
- = $575 x 0.25
- = $143.75
The federal dividend tax credit as a percentage of taxable dividends is 15.0198% for eligible dividends and 9.0301% for non-eligible dividends.
Her dividend tax credit on the federal level will be:
- = ($345 x 0.150198) + ($230 x 0.090301)
- = $51.82 + $20.77
- = $72.59
The tax credit, thus, reduces Susan’s original tax liability to $143.75 – $72.59 = $71.16.
What Tax Credits Are Available to Canadian Citizens?
There are both federal and provincial tax credits for Canadian taxpayers. Depending on the province where the individual lives, additional tax credits may apply, for example, 8.12% for eligible dividends and 2.18% for non-eligible dividends in Alberta.
What Is a Gross-Up?
A gross-up is the additional money added to a payment to cover the income taxes the recipient will owe on the payment.
How Does the Tax Credit Differ for Eligible and Other Than Eligible Dividends?
When a corporation designates the dividend as “eligible," the company has paid higher tax rates, and the taxes and tax credit will be higher than "other than eligible" dividends. For other than eligible dividends, the company paid lower tax rates, so the taxpayer will pay less taxes and receive a smaller tax credit.
How Much Tax Do I Pay on Dividends in Canada?
If you are a shareholder of a Canadian company and receive dividends, you will have to pay taxes on the dividends. The amount of tax you pay will depend on whether the dividend is eligible or non-eligible. Eligible dividends are taxed at 15.0198% and non-eligible dividends are taxed at 9.031%.
Do Foreigners Pay Tax on Canadian Dividends?
Yes, foreigners must pay tax on Canadian dividends if they hold the stock and receive its dividends. A 25% non-resident tax is levied on interest, dividends, and pensions, which is withheld by banks and other financial institutions.
The Bottom Line
Canadian residents can apply for dividend tax credits on dividends received from Canadian corporations. Dividends are categorized as eligible or other than eligible, and different grossed-up rates apply. Dividend tax credits are non-refundable credits to offset double taxing.
