Dividend
An amount paid by a corporation to its shareholders out of accumulated earnings. Before a sale, inter-corporate dividends help purify the company; after the sale, they help extract the transaction proceeds.
Definition
A dividend is a distribution of profits that a corporation pays to its shareholders. In Canada, there are two main categories: the eligible dividend, paid from income taxed at the general corporate rate, and the non-eligible dividend (also called ordinary), paid from income taxed at the small business rate.
In French-language Quebec documentation, you’ll see dividende déterminé (eligible dividend) and dividende ordinaire (non-eligible dividend) used for the same concepts.
The distinction matters because it determines the dividend tax credit you’re entitled to as an individual shareholder.
In the context of a business sale, dividends play a role at two key moments: before the transaction, to remove excess assets from the operating company (purification), and after the transaction, to transfer the sale proceeds to your personal hands.
Why dividends matter in a business sale
When a buyer evaluates your business, they care about the assets needed to run the operation — not your personal investments, the rental building owned by the company, or excess cash. To make your shares eligible for the Lifetime Capital Gains Exemption (LCGE), you often need to remove these non-operating assets.
The preferred mechanism is an inter-corporate dividend: your operating company pays a dividend to your holding company. This transfer is generally tax-free between related Canadian corporations, which makes it an effective purification tool.
After the sale, the proceeds usually end up in your holding company. To use them personally — pay off a mortgage, invest, fund your retirement — you’ll need to pay yourself dividends.
These personal dividends are taxable. Planning the timing and type of dividends (eligible or non-eligible) directly shapes your tax bill over several years.
The distinction between dividends and salary also affects your QPP contributions, your RRSP room, and your effective tax rate. A tax advisor can model the optimal scenario for your personal situation.
What every seller should know
- Dividends paid between two Canadian corporations (for example, from your operating company to your holding company) are generally received tax-free through the inter-corporate dividend deduction mechanism.
- Dividends paid to an individual are taxable. The effective tax rate varies depending on whether it’s an eligible or non-eligible dividend, and on your total income.
- Purification through inter-corporate dividends should be planned well before going to market. The CRA and Revenu Québec scrutinize transactions made hastily just before a sale.
- Post-sale dividend payments can be spread over several years to reduce the marginal tax rate — a common strategy, but one that requires professional guidance.
This text is informational. Consult a tax advisor for your specific situation.