23 Jun Should Doctors and Medical Practitioners Incorporate?
We work with a number of doctors and medical practitioners here at Clearline, and we are frequently asked about the pros and cons of operating a practice through a corporation in BC. While the Health Professions Act (HPA) governs who can own shares of a medical corporation, there is flexibility to organize your affairs in a tax efficient manner and benefit from certain tax advantages.
Advantages of Incorporation
Arguably one of the best advantages to incorporating your practice and earning your income through a professional corporation is the ability to defer taxes. At a high-level, income is first taxed in a corporation and then again upon distribution to you personally. Generally, your professional corporation would be eligible for a low 11% tax rate on the first $500,000 of taxable income and 27% on any excess taxable income, which is substantially less than the highest personal marginal rate of 54%.
This difference in tax rates creates the opportunity to leave excess income in your professional corporation and invest there. This deferral can exponentially increase your ability to save for retirement, parental leave, and unexpected illness. Further, by earning your income through the corporation, it allows you flexibility to determine when to distribute income to you personally.
We won’t detail the 2018 budget changes here, but unfortunately, the days of income splitting with your adult children to fund university tuition, weddings, or a down payment on their first home are significantly limited with the restrictive budget changes. Income splitting is now, for the most part, only readily available if the family members provide substantial amounts of services to the company or once you have turned 65. This is still a great opportunity to mitigate taxes in retirement and remains a strong argument for incorporation.
Note that there is opportunity to pay reasonable salaries to your family members if they provide services to your corporation, without the need for your family members to be shareholders. There is also flexibility to implement employee benefits that would not otherwise be available to you as a sole proprietor. So while the opportunity to split income has been diminished, there can still be opportunities available that make incorporating for this reason attractive.
Lifetime Capital Gains Exemption (LCGE)
The disposition of shares in a private corporation can be eligible for a significant break on the capital gains tax, if certain criteria are met. The LCGE is indexed each year and is $892,218 for 2021. Meaning, if you were to sell shares of a qualifying medical corporation for a capital gain of $892,218, you would not pay any personal income tax on that sale—potentially saving you up to $230,000 in tax. While the ability to shelter the sale of shares of your medical corporation is quite limited, largely because of the requirements on ownership by the HPA, it is still worth noting that the LCGE is available, and, can even be multiplied with family members under the right structure.
Here are a few other notable items that can be advantageous for incorporation:
Scientific Research & Experimental Development Program
The Government of Canada provides tax incentives to encourage Canadian businesses to conduct research and development in Canada. These incentives can be substantial and can result in tax refunds. Some of our medical practitioners are engaged in specialty areas—lab research and clinical trials, for example—and may qualify for this credit. We work with professionals to ensure you maximize these tax credits, when available.
Off-calendar fiscal year-end
Corporations are not restricted to a December 31 year-end. There are advantages of a fiscal year-end that is not calendar year-end, even if it is nothing more than providing you the flexibility of being able to deal with your tax planning during a less busy time of the year.
Interest incurred on debt used for business purposes is generally tax deductible. With record low interest rates, leaving profits in the holding company to focus on investing could be considered an investment strategy. You can’t knock paying off debt though, so that is also to say that finding the right strategy for you is what is important.
Health care can be a relatively high-risk area, and while there is malpractice insurance and other ways to reduce potential financial liabilities, a corporation does not usually protect you from personal liability resulting from professional negligence. However, shareholders of corporations are generally not responsible for the company’s liabilities and accumulating wealth in a separate holding corporation is often the preferred approach.
Disadvantages of Incorporation
There are also a number of potential disadvantages to incorporating that should be considered.
Complexity and cost
A corporation is a separate legal entity and is therefore subject to a number of administrative formalities. For example, your corporation will be required to file its own annual tax return, in addition to your personal tax return. Furthermore, funds withdrawn from the company must be reported as salary or dividends, each of which have separate filing requirements with the Canada Revenue Agency. In addition to the increased tax compliance, there are annual legal filing requirements as well, such as annual reports, directors’ resolutions and the maintenance of a Corporate Minute Book. The legal and accounting costs associated with a corporation can be considerably higher than those of a sole proprietorship.
Restricted business losses and personal use of funds
Tax losses during the start-up years are trapped in the corporation and cannot be used to offset personal income. However, if you cannot use all of the losses in a given year, they can be carried back up to 3 years or forward up to 20 years and used to offset past or future income. As well, excess profit deferred in the company can only be used for business or investment purposes. Funds must be withdrawn from the corporation and personally taxed before used for personal lifestyle expenses. Depending on how you withdraw, the funds can affect your ultimate tax liability.
Death and taxes
If you own shares of your corporation at the time of death, there are certain post-mortem planning activities that your estate will need to undertake to avoid double-taxation. There are options and strategies—both simple and complex—to avoid this issue, but it adds a layer of complexity that could be considered another potential disadvantage to incorporation.
There are a number of advantages and potential disadvantages to incorporation. Generally, we have found that medical practitioners are well suited to incorporate but each person’s specific situation should be considered before making this decision.
If you are a doctor or medical practitioner and are thinking about incorporating, OR if you are already incorporated but would like to discuss some of these topics, please reach out to us at 604-639-0909.