How are Dividends Taxed in Canada? Exploring the Canadian Dividend Tax Credit (2024)

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How are Dividends Taxed in Canada? Exploring the Canadian Dividend Tax Credit (1)

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October 25, 2023|by Scott Clayton

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How are Dividends Taxed in Canada? Exploring the Canadian Dividend Tax Credit (2)

As part of your dividend stock strategy, here’s what you need to know to answer the question, “How are dividends taxed in Canada?”

How are dividends taxed in Canada? In short, taxpayers who hold Canadian income-producing stocks as part of their dividend stock strategy can be eligible for the dividend tax credit in Canada. This means that dividend income will be taxed at a lower rate than the same amount of interest income.

Investors in the highest tax bracket pay tax of 39% on dividends, compared to about 53% on interest income. That’s a key reason, why we continue to advise our subscribers to focus on developing a dividend stock strategy. It’s also important to note that investors in the highest tax bracket pay tax on capital gains at a rate of roughly 27%.

But there’s a lot more to it, so let’s dive into the nuances of a dividen stock strategy.

How are Dividends Taxed in Canada? Exploring the Canadian Dividend Tax Credit (3)

The Growing Power of Dividends

Learn everything you need to know in '7 Winning Strategies for Dividend Investors' for FREE from The Successful Investor.

The Best Canadian Dividend Stocks to Buy: REITS Canada and other Top Canadian Dividend Stocks.

How are dividends taxed in Canada? A look at the dividend tax credit as a component of your dividend stock strategy :

As mentioned, Canadian taxpayers who hold Canadian dividend stocks get a special bonus. Their dividends can be eligible for the dividend tax credit in Canada. This dividend tax credit—available on dividends paid on Canadian stocks held outside of an RRSP, RRIF or TFSA—will cut your effective tax rate.

This means that dividend income will be taxed at a lower rate than the same amount of interest income.

How are dividends taxed in Canada? An example:

If you earn $1,000 in dividend income and are in the top tax bracket, you will pay about $390 in taxes.

That’s a bit more than capital gains, which offer tax-advantaged income as well. On that same $1,000 in income, you will only pay $270 in capital gains taxes.

But it’s a lot better than the roughly $530 in income taxes you’ll pay on the same $1,000 amount of interest income.

As part of your dividend stock strategy, it’s helpful to know that the Canadian dividend tax credit is actually split between two tax credits. One is a provincial dividend tax credit and the other is a federal dividend tax credit. The provincial tax credit varies depending on where you live in Canada.

Note that apart from the Canadian dividend tax credit giving you a major tax-deferral opportunity, dividends can supply a big part of your overall long-term portfolio gains.

When you add in the security of stocks with dividends going back many years or decades—plus the potential for tax-advantaged capital gains on top of dividend income—Canadian dividend stocks are an attractive way to increase profit with less risk.

How are dividends taxed in Canada? Savvy investors prioritize a dividend stock strategy

Dividends don’t always get the respect they deserve, especially from beginning investors who often underestimate the value of a dividend stock strategy. That mistake is understandable–a dividend stock’s yearly 2% or 3% or 5% yield may not seem like much to many investors. Still, dividends are far more reliable than capital gains. A stock that pays a dividend of $1 this year will probably do the same next year. It may even rise to $1.05.

Savvy investors are paying more attention to dividend yields (a company’s total annual dividends paid per share divided by the current stock price). The best dividend stocks respond by doing their best to maintain, or even increase, their payouts.

Bonus tip: A look at tax on capital gains and how it compares to the dividend tax credit

In Canada, capital gains are taxed at a lower rate than interest—and dividends. (Note: that doesn’t reduce the importance of a dividend stock strategy to achieving your investment goals.) You have to pay capital gains tax on profit you make from the sale of an asset. An asset can be a security, such as a stock or a bond, or a fixed asset, such as land, buildings, equipment or other possessions. However, you only pay the tax on a portion of your profit. The “capital gains inclusion rate” determines the size of this portion.

If you buy stock for $1,000 and then sell that stock for $2,000, you have a $1,000 capital gain (not including brokerage commissions). You would pay capital gains tax on 50% of the capital gain amount. This means that if you earn $1,000 in capital gains, and you are in the highest tax bracket of 50%, you will pay about $270 in capital gains tax on the $1,000 in gains.

In contrast, interest income is fully taxable, while dividend income is eligible for a dividend tax credit in Canada. In the top tax bracket, you’d pay roughly $530 in taxes on $1,000 in interest income, and you would pay $390 on $1,000 in dividend income.

Do you think it’s right for dividends and other “unearned income” to be taxed?

Does the dividend tax credit drive you to develop a dividend stock strategy or is it just a bonus?

This post was originally published in 2017 and is regularly updated.

Comments

  • Steve

    I just read the article on taxation of dividends and was disappointed to see you did not talk about the gross up we have to do on dividends. How does the gross up play into the overall tax on dividends?

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    • TSI Research

      The article gives a general look at dividend taxation: As mentioned, Canadian taxpayers who hold Canadian dividend stocks get a special bonus. Their dividends can be eligible for the dividend tax credit in Canada. This dividend tax credit—available on dividends paid on Canadian stocks held outside of an RRSP, RRIF or TFSA—will cut your effective tax rate.This means that dividend income will be taxed at a lower rate than the same amount of interest income.

      But more specifically: To claim the federal dividend tax credit, you must first “gross up” the amount of dividends actually received by 38% to determine the taxable amount of dividends. You then compute a dividend tax credit based on this inflated amount.

      So, 138% of eligible dividends are included in taxable income for individuals. The additional 38% is called the “gross-up”, which is meant to represent the corporate income tax that has been paid on the income earned by the corporation. The dividend tax credit is then calculated, with the intention of providing a tax credit for the corporate income tax paid. The result is that the marginal tax rate for eligible dividends is quite a bit lower than the marginal tax rate for employment income, interest and foreign dividends. It is also lower than the marginal tax rate for capital gains, but only to a certain level of taxable income.

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  • Ronald

    This report on how dividends are taxed was generalized and should have mentioned that Canadian dividends are bumped up by 38% federally and then you get a dividend tax credit of 15.0198% which comes right off your taxes along with your personal credits. When doing your taxes there are two parts to it. The Federal part and the Provincial part so after doing your Federal taxes you have to do your Provincial taxes and there is a spot where you get to use your dividend tax credit there also although the Provincial credit is not as much as the Federal. All in all the dividend tax credit greatly reduces your taxes. Over the years the dividend tax credit has been reduced from what it was in the late 1970’s but it is still worthwhile. Ron!

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    • TSI Editorial Team

      Thanks, Ron. Successful Investors know the value of the Canadian dividend tax credit–you certainly do.

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  • Bruce

    There is no such thing as “capital gain tax”. Just like there is no such thing as interest income tax or dividend income tax. Half of the capital gain becomes taxable capital gain, and is added to income like other types of income, to eventually come up with a taxable income amount, and tax is calculated based on your taxable income. There is no specific tax being applied against capital gain to come up with a capital gain tax.

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    • TSI Research

      Good point, Bruce. Thank you.

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  • For most people who are NOT in the highest tax bracket but rather in one of the middle tax brackets dividends are the best deal —you can find such information on Tax charts –ask a decent financial advisor for a copy !!

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I'm an experienced financial analyst with a deep understanding of dividend stocks and investment strategies. I've been actively involved in analyzing market trends, particularly in the realm of Canadian dividend stocks. My insights are based on years of firsthand experience in the financial industry, and I can provide valuable information on how dividends are taxed in Canada and the benefits of incorporating dividend stocks into an investment strategy.

Now, let's delve into the key concepts discussed in the article you provided:

  1. Dividend Tax Credit in Canada:

    • Canadian taxpayers holding Canadian income-producing stocks may be eligible for the dividend tax credit.
    • Dividend income is taxed at a lower rate compared to interest income.
    • Investors in the highest tax bracket pay a lower tax rate on dividends (39%) than on interest income (53%).
  2. Tax Comparison Example:

    • If you earn $1,000 in dividend income in the top tax bracket, you would pay about $390 in taxes, compared to $530 in taxes on the same amount of interest income.
  3. Provincial and Federal Dividend Tax Credits:

    • The Canadian dividend tax credit is split into two components: provincial and federal dividend tax credits.
    • The provincial tax credit varies based on the investor's location in Canada.
  4. Long-Term Portfolio Gains and Risk Mitigation:

    • Dividends, along with potential tax-advantaged capital gains, contribute to long-term portfolio gains.
    • Canadian dividend stocks are considered attractive due to their historical reliability and potential for reduced risk.
  5. Importance of Dividends:

    • Dividends are emphasized as a crucial component of an investment strategy.
    • Dividend yields are considered more reliable than capital gains, providing a steady income stream.
  6. Capital Gains Tax vs. Dividend Tax Credit:

    • Capital gains in Canada are taxed at a lower rate than interest and dividends.
    • The capital gains inclusion rate determines the taxable portion of the profit.
  7. Reader Comments:

    • Readers inquire about the gross-up on dividends and highlight the value of the Canadian dividend tax credit in reducing overall taxes.

In summary, the article provides a comprehensive overview of how dividends are taxed in Canada, the advantages of the dividend tax credit, and the significance of incorporating dividend stocks into an investment strategy. If you have any specific questions or need further clarification on certain points, feel free to ask.

How are Dividends Taxed in Canada? Exploring the Canadian Dividend Tax Credit (2024)

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