In my last article on blogging and taxes, I stated that I run my blog as a corporation for income tax purposes. In the eyes on the tax man, the blog and me are two completely separate entities. The blog’s corporate structure qualifies it for a special tax rate of 17% on net income up to $400,000. As a person, I am not entitled to such a low rate. If I were to make $400,000 as an employee, I would pay over $160,000 of it in income tax. When you compare that to the $68,000 the corp would pay, you can see why I run things the way I do.
Because the corp and me are separate, the income made by the blog belongs to the corp and not me. I can take out money from it by paying myself a salary or dividend. This money will then be taxed in my hands. The problem is money on personal income is taxed at a much higher rate than corporate income. If I were to pay myself a salary of more than $25,000 or dividend of more than $33,000, I would owe more taxes than if I just left the money inside the corp. Because of this, many business owners pay themselves the minimum amount and leave the rest in the corporate retain earnings. The question then is, how do I live the dot com mogul lifestyle on only $33,000 a year?
You need to remember the $33,000 a year dividend is tax free. In other words, I net the same as an employee earning $44,000 a year. Last time I checked, $44,000 a year is still higher than the average income for a Canadian or US citizen. Here are some other tax free ways to transfer money from corp to owner.
Mixing Business with Pleasure
Whenever possible, I try to have the company pay my expenses. There are limits to what you can do so you need to check with your professional tax adviser first. For example, you can’t have the company pay for a new set of golf clubs (unless you’re a professional golfer). As long as it has something to do with company business, chances are the company can pay for it even if you draw some personal use out of it.
For example, the company pays for all my travel because of the trade shows I cover. I have lots of personal fun while in the new city but I’m also there for business. It’s really the ultimate way to travel. First class tickets, $5,000 a night hotel rooms, limo services, etc. I wouldn’t be able to do this with my limited personal income, but I’m not the one paying for it. The company is.
You need to keep in mind the “reasonable” expense part of the tax act. Chances are, the tax man will rule a $5,000 a night hotel room as unreasonable and disallow it. However, if that hotel room was used to host a party for clients and customers, the picture changes. It’s just a small bonus that I get to stay there. 😈
50 Cents Per KM for Driving
The income tax act allows companies to reimburse employees for using a personal car to do company business. The current rate is set at 50 cents per KM. So, that 500KM trip I took to Seattle for the Seattle Blogger Meetup netted me $250 cash. I pretty sure I didn’t spent $250 in gas to get to the meetup but that is the rate the corp is allowed to pay.
Because I work from home, most of my driving is business related and I always try to mix business with pleasure. The ultimate is when I go for a dine out. Not only does the corp pay for the dinner, I also make 50 cents/KM for driving there.
I Have Some Really Cool Tech Toys
One of the cool things about running The TechZone is almost every computer product I buy can be paid for by the company. If there is a new toy that I really want and if the manufacturer won’t give it to me to review, I’ll have the company buy it and then review it. The cost of the product can then be written off or capitalized. Either way, I don’t have to spend any of my $33,000 net income on toys for boys.
The Company Bank
This is something you can do if you’re in the market for a really big ticket item (like a house) and don’t have enough cash to buy it but the company does. Rather than withdrawing the funds from the company and having the money added to your personal income, you borrow the money from the corp instead. The money would not be taxable because it’s a loan. You will have to pay the money back and have your lawyer do all the paper work so it’s legit.
You can structure the loan anyway you want. For example, you can set it up so the full loan amount plus interest get paid off in 10 years. Then you can try to sell the company in year 9 and have the loan “forgiven” as part of the buy out.
Company Paid Life Insurance
This maneuver has to be one of the best tax free way to transfer wealth from corporation to owner. Because I am a company director, TTZ Media Inc. maintains a multi-million dollar universal life insurance policy on me. If something were to happen to me, the corp would receive a huge payout and that money would pass tax free to its remaining shareholder (that’s Sarah).
With the exception of term insurance, all life insurance policies are made up of two components, the insurance component and an investment component. The key here is the investment component. While the money is inside the policy, it’s allowed to grow tax free, just like a RRSP. Knowing this, many investors put way more money than they have to into their policy.
For example, a 37 year old non smoking female has to pay $622.50 a year to get $1 million of life insurance. If all she does is put $622.50 into her plan, all she’ll have is insurance. Anything above that amount goes into the investment component. To prevent people from putting in their life savings, the government sets limits on the maximum amount you can pay into a policy and still keep its tax shelter status. In this example, the maximum is $41,847.61 a year. The higher the insurance needs, the higher the limit.
Here’s the key. Insurance premiums are paid with after tax money. In order for me to pay $41,847.61 a year in premiums I would need to withdraw almost $70,000 from the company because 40% of that would be eaten up by income tax. However, the company gets taxed at 17% so it only needs to earn $50,418 to pay the premiums. That means more money to invest into the investment component.
What you are doing is transferring large chunks of corporate retain earnings into life insurance. Over time (and with tax free growth), this policy will have a cash surrender value in the millions. If I take the cash, it’ll get added to my income and taxed at nearly 50%. Plus I would lose my death benefits. That’s not a good deal and only a fool would do that. Here’s how to get that money out tax free.
A bank will lend up to 90% of the cash value on an insurance policy. If the cash value of the policy was $5 million, I can walk into any bank and borrow $4.5 million to do with whatever I want. I can take the money all at once or have it paid out over time. The money would not be taxed because it’s a loan and not income. The bank would capitalize the loan so I would never have to make a single payment on it. How does the bank get its money back? When I die, the death benefit will pay off the bank loan plus accrued interest and any money left over will go to my beneficiary tax free.
With this strategy, I can invest corporate income, have it grow tax free, withdraw most of it down the road tax free by borrowing against it and have the rest pass to my heirs tax free. As with all investments, please see a qualified professional. What is best for me may not be best for you.