Karim Chahal
Independent Advisor
Financial Security Advisor
Group Insurance and group annuity plans advisor
With Horizons Financial Services Inc.
6 Trenton Ave.
Mont-Royal, H3P 3K7
514-927-1232
Fax. 514-733-1899
kchahal@thechahalgroup.com
Financial Strategies for DoctorsIndividual Pension Plans & Business Owners
IPP Bus Owners.pdf
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Writing Off Medical Expenses
Strategy #2
Trimming Your Tax Bill
As a self-employed doctor, preparing your income tax return seems pretty straightforward. All you need is a list of available tax deductions, right? Well, it’s not quite that simple unfortunately. Many doctors are now incorporated and the corporate structure offers many new opportunities to drastically reduce income taxes, making tax planning more complex.
Here are some ideas as to how to cut taxes using your corporate structure.
Utilize the Family's Lower Tax Bracket
Corporate Planning
Utilize Fringe Benefits
This is just a selection from the smorgasbord of many great tax-planning opportunities. With the help of a good tax advisor, and making time to plan your income taxes and finances, you too can drastically reduce your income tax bill.
RRSP Tips for MDs
The "season" is upon us, and unless you are planning to practice full-time after the age of 65, your retirement income goals will most likely not be met by your RRSP alone. However, the RRSP is still an important retirement savings vehicle, especially when you add you’re Individual Pension Plan (IPP) and your corporate savings vehicle into the retirement planning mix.
To make the most of your annual RRSP contribution, follow these basic rules:
Always contribute.
Financial planners like to suggest skipping the RRSP contribution in favour of saving the funds in the corporation, or paying down a home mortgage. I don't argue with the math, but what is omitted from this equation is the benefit derived from being disciplined enough to make your annual contribution before the RRSP deadline, even if it means taking a loan. Realistically, instead of taking the money earmarked for the RRSP contribution to pay down the mortgage or invest in the corporation, many of you will just go on a spending spree!
I don't suggest maximizing your contribution each year, but I do recommend making an RRSP contribution based on your salary level, and that makes good sense from a tax-planning point of view.
Never increase salary to max your RRSP.
If you need a salary of only $55,000 from the corporation then don't double it to take advantage of the $20,000 maximum contribution available in 2008. You are wasting your money. Paying an extra $55,000 in salary to generate an additional $10,000 RRSP contribution will cost you $8,650, as per the following calculation: RRSP tax savings $10,000 x 40% - assumed personal tax rate $4,000 Corporate tax savings $55,000 x 17% - assumed corporate rate $9,350 Less: Personal Taxes $55,000 salary x 40% (22,000) Additional tax cost ($8,650)
Have your corporation pay a salary instead of dividends.
If you are supplementing your salary from the corporation with cash draws in the form of dividends, consider taking a salary instead, thereby creating more RRSP contribution room.
Boost RRSP contributions for family members.
If your spouse and children are employed by the practice, their salaries are usually limited using CRA's reasonableness test. Consider setting up an Employee Profit Sharing Plan (EPSP), naming you and family members as beneficiaries. The EPSP is easy to set up and maintain and the funds flowing through the EPSP to the beneficiaries are no longer subject to the "reasonableness" test. You are now free to allocate $100,000 to your employed spouse, who will then be eligible for an $18,000 RRSP contribution in her own name.
Consider transferring your RRSP to an IPP if you are over 55.
The IPP is the tax-sheltered vehicle of choice for those who want to maximize post-career income. The maximum 2008 contributions to an IPP for a 55 and 60-year-old doctor are $28,922, and $31,769, respectively, compared to an RRSP contribution of $20,000. An exciting aspect of the IPP is that, in addition to the annual IPP contributions, you can make substantial past service contributions.
Don't borrow from the RRSP.
To maximize investment returns, keep your RRSP funds insulated from your practice and invested in the market. Do not borrow from your RRSP as this would require a self-administered plan to accommodate any withdrawals for your own use, perhaps to finance the purchase of a house. Be cautioned that self-administered plans carry significant administration and legal fees. Likewise, skip the RRSP Homebuyers Plan. There are more efficient ways to finance a down payment for a home.
Creditor-proof your RRSP.
If you would like to shield your RRSP against creditors, place it with a life insurance company.
Set up a spousal plan.
Utilize a spousal RRSP to ensure maximum income splitting with your spouse during retirement. If you plan to withdraw funds from the spousal RRSP, wait four years after making the last contribution, otherwise the RRSP funds will be taxed in your hands.
Implement a tax efficient investment mix.
Consider directing interest-bearing instruments to the RRSP, and investing in your personal or corporate name in securities producing predominantly capital gains and dividends. In the RRSP you lose the benefit of the tax-free half of the gain and the dividend tax credit, as all income paid out of the RRSP is fully taxable.
Moving Corporate Dollars to Your Personal Account - The Smart Way
How do I withdraw funds from my corporation in the most tax-effective manner? A fairly straightforward question you may think, but finding the right answer can be anything but simple. Planning cash withdrawals to yourself and other shareholders is challenging as there are many factors to be considered, not least of all CRA's ever-changing assessment practices.
First of all, ask yourself these three basic questions:
On the other hand, salaries to other family members, including children, must meet the strict reasonableness test. So, what is a reasonable salary? Is it the amount the corporation would pay for the same services to an arm's length employee? In one tax court case, the judge found that family members are more valuable to the business than non-family members thereby justifying a larger salary to family members. The bottom line is that you can pay a bit more to your spouse and children as long as you are not too aggressive in your income splitting exercise.
Keep in mind, that if the CRA considers a salary not to be reasonable, then the deduction will be disallowed. This in turn triggers the dreaded "double taxation", because the employee still has to pay tax on the disallowed portion. Many spouses provide limited administrative services to the medical practice, but the salary allowed by CRA is usually much less than the amount that should be paid to maximize income splitting. Should you take an additional salary amount from the company in order to maximize your RRSP contribution?
Consider the following scenario. This Ontario doctor only needs to take a $50,000 salary out of his medical corporation, considering his personal cash needs and the opportunity to split income with family members. He wishes to increase his salary to $111,111 so that he can benefit from the full $20,000 RRSP deduction. Is he better off taking the additional salary, or should the funds be retained in the corporation? The answer is that he would be better off leaving the funds inside the corporation than removing them for purposes of maximizing his RRSP contribution.
The following calculation illustrates what happens if this doctor takes an additional $61,111 in salary:
|
Personal tax on additional salary |
$23,953 |
|
Less reduction in corporate tax |
($10,388) |
|
Less benefit of additional RRSP contribution |
($4,341) |
|
Additional tax cost |
$9,224 |
In this case, the extra tax cost of making the maximum RRSP contribution is $9.224. (You can make your own calculation for your specific circumstances.) Usually, it is makes financial sense to simply make an RRSP contribution on your existing salary while you take advantage of the tax deferral benefits of retaining funds inside your medical corporation.
Here is a summary of considerations when transferring funds from your corporation:
Do You Have the Right Banker?
Do you consider your banker to be a valuable member of your financial team? Are you confident that your banker is really doing everything in his power to assist you in achieving your personal financial and practice goals?
The loyalty you have to your bank is really more about the relationship you have developed with your personal banker and less about the institution itself.
Here are some soul searching questions to ask yourself about your relationship with your banker.
Does my banker really understand my situation? Am I benefiting from his/her experience with the medical profession?
Does my banker initiate discussions to help with the financial management of my practice? Or is the relationship a one-way street, where I ask all the questions but get little useful feedback in return?
When I seek financial advice, is my banker the first person to whom I turn? If you chuckle at that question in disbelief, meaning your banker is not on the top ten list of important people to call when seeking financial advice, then the relationship with your banker is probably not worth keeping.
Does the bank take me for granted? Has my account turned into a "hand-me down"? Is my practice the unpaid training ground for the bank's junior staff?
Is my account too big for my account manager? Is he/she just the go-between with more senior staff to obtain approval for my loans?
Does the banker return my calls promptly? Or do I have to leave an endless stream of voice mail messages?
Does the banker really care about me? If I am approaching a month-end cash flow "crunch" do I have a sympathetic banker prepared to jump in and help, or do I receive another schoolboy lecture on prudent financial management and budgeting?
Does the banker help reduce my ongoing debt servicing costs? Is the bank willing to reward my good performance by reducing the interest costs and loosening the restrictions and covenants on my loan?
Is the banker willing to accommodate my tax planning? For instance, am I permitted to channel all my principal repayments to my personal and non-deductible debt before paying down my practice loans in order to maximize the tax benefit of the interest deduction?
If you find that you are not comfortable with any of your answers to the above, it is probably time to shop for a new banker.
Tips on Structuring the Loan
When you need to borrow money, consider the following before you snatch up the first offer on the table.
Go loan shopping. Patronizing the same bank for the last twenty years because your account manager is a fishing buddy means nothing. In fact, it has been my observation that the most loyal and trusting bank customers sometimes receive the rawest deals. Too frequently, banks are inclined to accommodate only after threats to take business elsewhere. Don't get me wrong; having an established bank relationship can be very valuable and reassuring. I certainly would not suggest jeopardizing that comfort level just to gain a one-half percent, especially if I were otherwise happy with the service. However, banks are much keener to deal when they are competing for your business and when considering taking out a major loan it is definitely advisable to shop for the best deal.
Look for the lowest financing costs. Approach the banks, such as RBC, Scotiabank, BMO, etc. which offer special packages to doctors. Typically, these banks offer practice loans and line of credits at bank prime, including reduced monthly bank service charges.
Consider borrowing against your home. A home mortgage is the cheapest form of financing, as these rates are often well below the bank prime rate. Instead of taking out a business loan to finance capital expenditures for the practice, consider using the equity in your home. Although the loans are secured by your personal residence, the interest remains tax deductible.
Choose corporate over personal debt. Whenever you can, have your medical corporation borrow the money. The corporate tax rate is 18% versus a personal tax rate of 44%, depending on which province you are in. The corporation saves 26 cents on every dollar of income, which leaves more money to repay the principal of the debt.
Convert non-deductible into deductible debt. Making interest payments tax deductible should be a priority. There are a number of creative ways to achieve mortgage deductibility, and your advisor can provide you with the options.
If you are uncomfortable negotiating with the bank, find someone who will. Many clients prefer to pursue their daily practice routine, and abhor the thought of haggling with a loan manager. If you would rather dance with a gorilla than negotiate with your banker, get an advisor to do it. Many savvy accountants successfully handle bank negotiations and do not fear bargaining hard on behalf of their clients
Should Your Corporation Own the Critical Illness Policy?
Many doctors are purchasing critical illness policies in addition to disability coverage. Even the best disability policy may be inadequate to cover personal and living expenses, especially when you are servicing a large mortgage. Medical breakthroughs offer us the good news that the chances of surviving cancer or a heart attack have never been better. The downside is that survival can create considerable financial pressure, since you may only be able to work part time and could require additional capital outlays, for items such as alterations to your home.
The beauty of a Critical Illness (CI) policy is that upon diagnosis of an illness, you will receive a lump sum payment. You will be able to utilize these funds without any restrictions, i.e. loan repayments, medical treatments abroad or in local private clinics, or you can use the money to invest.
If a decision is made to purchase a CI policy, the question then arises as to ownership. Should you personally or your corporation purchase the CI policy? The tax consequence of owning the policy personally is straightforward. The premiums are not deductible, and any proceeds from the policy are tax-free. However, this option is an expensive proposition, since the premium must be paid with high rate after-tax dollars.
Owning the CI policy in the corporation provides for some interesting tax planning opportunities. The tax consequences of a corporate owned policy depends on whether the coverage is for you as an employee of the company or in the capacity of a shareholder.
Coverage for Employees
Your corporation, as the employer, sets up a Group Accident and Sickness Plan (GASP) for the employees of the clinic, which can include you, your spouse and office assistants. Under the GASP, the corporation purchases individual CI contracts for each employee, who then becomes the beneficiary of his or her own policy?
Setting up these grouped CI policies under a GASP arrangement provides tremendous tax benefits, as follows:
If you are an employee and a shareholder of the corporation participating in the GASP, CRA may deem you to be a shareholder rather than an employee, and impose punitive taxable benefits on you. The company would no longer receive a tax deduction for the premiums, and the benefits under the policy would be taxable to you.
You can strengthen an "employee vs. shareholder" dispute by making the plan available to unrelated employees of the practice. If you and your spouse are the only employees, the chances of winning the argument is slim, unless you can establish that it is an industry norm in the health care profession to only provide this type of coverage to shareholder-employees.
Coverage for Shareholders
The tax consequences of a corporately owned CI policy can be illustrated in the following situation. Your medical corporation purchases a CI policy for your benefit as a shareholder. The policy provides for the payment of a $100,000 basic benefit if you become critically ill, and the reimbursement of all premiums if you do not become critically ill within a 10 year period. The annual premiums are $1,200 for the basic benefit and $600 for the reimbursement endorsement.
Consider the following scenarios.
Scenario 1 The Corporation pays both the insurance premiums and is the beneficiary for both insurance benefits.
Scenario 2 The Corporation pays both insurance premiums but is the beneficiary for only the basic benefit. The shareholder is the beneficiary for the reimbursement of premiums.
Scenario 3 The Corporation pays only the $1,200 premium and is the beneficiary for the basic benefit. The shareholder pays only the $600 premium and is the beneficiary for the reimbursement of premiums.
The tax consequences are as follows:
In summary, the tax deduction of the premiums for critical illness coverage is limited to a corporate employee benefit plan, which must include unrelated employees. Certainly from a tax point of view, there are incentives to set up such a plan, which not only provides tax-free lump sum benefits to you but also a huge financial boost to your hard working staff when it is most needed.
Nine Major Obstacles to Practice Success
No matter how talented you are or how many hours you spend in your practice, you will never reach the pinnacle of professional success if you are suffering from any of these afflictions:
1. Super Inflated Ego. Being enamoured of your own self-importance and hyping your medical "Superman" skills far and wide will not build close relationships with patients and staff. Your patients will consider you as self-serving, and no one wants to be treated by a cold, callous doctor. A boss who thinks he can walk on water will stretch his staff's loyalty to the limit.
2. Greed. If you are living with the impression that a medical degree is a license to print money, medicine will not be a rewarding career and eventually you will grow to hate your chosen profession. When it becomes apparent that your patient care is driven by greed, your patients will drop you like a hot potato, and your staff will move on to a more nurturing environment. Your only legacy will be a bad reputation.
3. Lost passion. According to Rod Stewart, everybody needs passion, and I agree with him. When your passion for golf or breeding Arabian horses exceeds your passion for your career, then your future will become shaky and unpredictable. You will end up marking time in the office, with little time or energy for staff and patients.
4. Inability to focus. A trait often found among successful physicians is the ability to focus all their energies on managing their practice and building their skills. It is easy to be motivated when you are hungry and have a large mortgage to service, but once the financial pressures ease, doctors typically back off. They start to work fewer hours, and find other things with which to amuse themselves. When you start "milking" the practice for all it's worth to finance your hobbies, then you are heading downhill, to professional disaster. I have the greatest admiration for those heroic doctors who stay focused, stay on track and who continuously "raise the bar" of professional excellence.
5. Poor interpersonal skills. According to a patient survey conducted by the Mayo clinic, patients ranked personal skills, such as empathy, confidence, respect and caring as the most important qualities of the "ideal" doctor. Interestingly, technical skills did not make the list; so presumably patients assume that anybody with a medical degree hanging on their wall is competent. The survey confirms that patients and staff believe that a doctor's ability to convey thoughts clearly and concisely enhances his or her professional credibility.
6. Lack of integrity and follow-through. When you make commitments and promises to your patients and staff members, you must do what you say you will do and do so immediately. Deal with problems promptly, and don't shy away from making tough decisions, such as terminating a long time employee, or finding a more suitable office location.
7. Not taking responsibility for your finances. Many doctors happily hand over the management of their savings to a money manager. Due to ignorance and lack of involvement, many doctors are taken advantage of by management "professionals". Often, these "professionals" are more interested in inflating their own bank accounts, instead of those of their clients, with devastating results. Don't put the blame for the poor financial results of your portfolio on the investment firm or the stock market. Never forget you are in charge of your own money. The buck stops with you.
8. Unhealthy relationship with money. It has been said that rich people buy assets and poor people buy liabilities. Unfortunately, many doctors don't know the difference. To clarify, an asset is an investment that generates income, whereas luxury items, such as boats, sports cars and cottages, are liabilities, because they require cash out flow to maintain them. You can enjoy the good life without having to surround yourself with the newest toys on the market or living in the lap of luxury. One of the most important pieces of advice I give to doctors is to delay the instant gratification of acquiring the luxuries until you can afford them. When you reach retirement age, it is the size of your bank account that counts, and not how many toys you have.
9. Roving Eye. Embarking on an extramarital relationship with your office assistant is like a ticking bomb. It is only a matter of time before it explodes, and the casualties will be your marriage, possibly your relationship with your kids, staff morale and ultimately the success of your practice. All that will be left are the smoking remnants of your retirement nest egg, and the obligation for sizable support payments. Don't be led into temptation, hire employees based on their skills and no other more obvious attributes.
Quitting Time: Planning For a Prosperous Retirement
Dr. Al (53) and his wife Susie (50) are happily anticipating a milestone that cannot come soon enough. The mortgage is paid off, the children are no longer on financial life support, and they can finally get serious about nurturing and hatching their retirement nest egg. Over the years, they have managed to put aside funds in an RRSP, which has grown to about $500,000. Aside from their million dollar, mortgage-free home, they have no other investments. After drawing a combined yearly salary of $130,000 from their medical corporation, Al and Susie figure they can save $50,000 in the company each year.
Dr. Al would really like to retire in 7 years at 60, but can Al and Susie generate $100,000 a year to support their lifestyle?
Let's take a reality check for Dr. Al. If we assume an investment return of 8%, an inflation rate of 3%, and a payout to age 90, the annual after-tax income at age 60 will be about $80,000, $20,000 short of their target. However, if Al can just hang on until age 65, they would enjoy a comfortable lifestyle, earning $110,000 annually.
If Al insists on retiring at 60, his choices are to:
If you are interested in determining the amount of savings you require for your own prosperous retirement, you can check out a number of online retirement calculators. My favourites are the (click on RSP Contribution Calculator), or CRA.
You can also simply calculate an estimate by using my rule of thumb: If you anticipate retiring at 65, multiply your projected annual, before-tax, income by 20, or for retirement at 60, use a multiplier of 25. You will see that if you require a conservative before-tax retirement income of $100,000 a year, then you will need to save $2,000,000 by age 65, or $2,500,000 by age 60.
Planning Tips
Here some pointers to keep in the back of your mind when you are preparing your retirement financial plan.
Don't lowball living expenses. If you can barely make ends meet now with an income of $10,000 a month, don't fool yourself that you can live on half that amount once you quit practicing. Budget at least 80% of your current income.
Don't count on any income while "phasing out". Doctors have the wonderful option of a "phased retirement". This means that you don't have to stop cold turkey, like most other non-medical professionals. You can work as many days as you like as you transition to a full retirement. There are many choices, such as sharing a full-time office with a colleague, or working part-time in a walk-in clinic. Any such income must be considered the icing on your retirement cake and must not be included in your retirement budget. There are too many "retired" doctors who end up working long shifts just to pay for life's basic necessities.
Prepare an annual net worth statement. At least once a year, measure the progress of your investment accumulation efforts by preparing a net worth statement. This crucial planning tool is simply a summary of your investment assets and liabilities, including mortgages, and loans. Do not include your family residence, or any recreational property, if you don't plan on selling it. When you review your balance sheet each year, set a goal of how much you can save over the next year. The net worth statement is the most efficient method in determining whether or not you stayed on track with your savings target and if not, how you can quickly remedy the situation.
Always save in the corporation. Build up your savings in the corporation and only take out funds for personal and living expenses. If Dr. Al and Susie save $50,000 per year in the corporation for the next ten years, their investments will grow to $725,000 (before tax). If they draw the funds from the corporation, and invest personally, then their savings will only grow to $500,000. You will need to deal with the personal taxes when you eventually draw the funds from the corporation, but there are many strategies available to minimize the cost of withdrawal.
Consider working more. For most, the proposition of expanding practice hours is a non-starter. But, before you discard the idea completely, consider this. Working just a few extra hours now can have a huge impact on your future lifestyle. If you decided to work an extra day per week, for example, you could generate an additional $1,000, before deducting 18% corporate tax. If you invest the remaining $820 for 45 weeks per year for 10 years, then you will have accumulated an additional $500,000.
All you need to build your investment portfolio is the discipline to get down and personal with your finances. By setting annual financial targets, and maintaining a savings program, you will end up with plenty of retirement dollars in your pocket.
Your Investment Portfolio: Corporate or Personal?
The traditional advice has always been to invest your money personally rather than in a corporation due to the application of higher corporate taxes to passive investment income. However, as a result of changing federal and provincial tax rates, there is now a tax benefit to investing inside your corporation. The size of the benefit depends upon where you live.
The following indicates the tax saving, by selected province, from earning investment income in a corporation, and then paying the income out to the shareholder.
|
|
B.C. |
N.B. |
||
|
Corporation |
|
|
|
|
|
Investment Income |
$1,000 |
$1,000 |
$1,000 |
$1,000 |
|
Corporation tax |
(478) |
(458) |
(498) |
(488) |
|
|
522 |
542 |
502 |
512 |
|
Dividend refund* |
261 |
267 |
251 |
256 |
|
Available to shareholder |
783 |
809 |
753 |
768 |
|
Personal tax |
(145) |
(142) |
(185) |
(178) |
|
After-tax net income (A) |
$638 |
$667 |
$568 |
$590 |
|
Personal |
|
|
|
|
|
Investment Income |
$1,000 |
$1,000 |
$1,000 |
$1,000 |
|
Personal tax |
(437) |
(390) |
(464) |
(470) |
|
After-tax net income (B) |
$563 |
$610 |
$536 |
$530 |
|
Tax Savings ( A - B ) |
$75 |
$57 |
$32 |
$60 |
|
Tax Savings ( % ) |
7.5% |
5.7% |
3.2% |
6.0% |
*Refund available upon payment of dividends to shareholders.
The table shows that a B. C. resident receives an additional 7.5 % of income by investing in a medical corporation or separate holding company ("Holdco").
You can transfer your existing portfolio to a corporation without any tax consequences by filing a special tax election. Making your low-income family members shareholders in the investment corporation, and channelling the corporate cash distribution to them in the form of dividends will enhance the tax savings.
Investing surplus cash in your Medical Corporation or Holdco, instead of personally accumulating the savings, will boost your retirement income.
In the following illustration, assume a B. C. corporation earns a before-tax annual income of $200,000, with annual living expenses totalling $80,000. The excess income is invested at 6% for 20 years, and the portfolio is then paid out over 15 years. What retirement income can you expect if you keep the funds in Holdco, or you remove the surplus funds from the corporation and invest it personally?
|
|
Holdco |
Personal |
|
|
|
|
|
Corporate income |
$200,000 |
$200,000 |
|
Living expenses |
(80,000) |
(80,000) |
|
Personal tax |
(35,000) |
(71,000) |
|
Corporate tax |
(15,000) |
- |
|
Available to invest each year |
$70,000 |
$49,000 |
|
|
|
|
|
Investments in 20 years |
$2,005,000 |
$1,431,000 |
|
Annual after-tax income for 15 years |
$106,000 |
$95,000 |
As the illustration shows, you can increase your retirement income by $11,000 each year by using your corporation as the investment vehicle.
Tax Deduction Checklist
The following are some of the tax rules regarding practice expenses, which are most likely to be scrutinized by the tax auditor. Most of them contain a personal component, therefore making them subject to the taxpayer's interpretation. These interpretations often conflict with CRA's administrative policy.
Meals and Entertainment
The maximum amount that can be claimed is 50% of the actual cost of food, beverages and entertainment and incurred. Entertainment expenses include tickets and entrance fees to an entertainment or sporting event, gratuities, cover charges, and room rentals (I. e. hospitality suites). The 50% limit also applies to gift certificates for food and beverages and tickets to sporting events and concerts purchased for patients or staff. 100% of meal and entertainment expenses may be claimed providing the employer incurs the amount for food, beverages or entertainment that is generally available to all the employees at a particular place of business and is consumed or enjoyed by them. The employer is limited to six events per year. Meals and beverages served and entertainment provided while traveling on an airplane, train or bus are not subject to the 50% limitation if the cost is included in the travel fee. Food and beverages provided while traveling by boat or ferry are subject to the 50% limitation.
Club Fees and Dues
Green fees or membership fees in a golf club are not deductible. There is an exception for expenses incurred for food and beverages at a restaurant, conference room, etc. of a golf club if they are incurred for genuine business purposes and the expenses are not incurred in conjunction with a game of golf or other recreational activity at the club. Such amounts are subject to the 50% meals and entertainment limit discussed above. The taxpayer may not deduct membership fees or dues in any club if the main purpose of the club is to provide its members with dining, recreational, or sporting facilities.
Equipment and Instruments
Equipment and instruments are amortized at 20% per year and computers at 45% per year. Instruments under $200 are fully deductible.
Home Office You can deduct expenses for the business use of a work space in your home, as long as you meet one of these conditions: it is your principal place of business; or you use the space only to earn your business income, and you use it on a regular and ongoing basis to meet your clients, customers, or patients. You can deduct part of your maintenance costs such as heating, home insurance, electricity, and cleaning materials. You can also deduct part of your property taxes, mortgage interest, and capital cost allowance. To calculate the part you can deduct, in other words, the area used for business purposes only, use a reasonable basis such as the area of the work space divided by the total area of your home. The terminology "regular and continuous use" has been challenged by Canada Revenue. In Vanka v. The Queen, the physician alleged that his home office was simply an extension of his downtown office, used for administrative purposes and to store patient files. The courts agreed with the taxpayer and considered that seeing one patient per week, and receiving 6-7 patient phone calls per evening, could not be undertaken without the use of the home workspace. The consultations made by phone constituted billable medical acts, and therefore, satisfied the criteria of 'regular and continuous use'.
Interest on Student Loans
Interest is deductible on loans received under the Canada Student Loans Act, or similar provincial government assistance for post-secondary education. Interest is not deductible on a personal loan or a line of credit. Amounts not deducted may be carried forward five years.
Uniforms and cleaning the cost of purchasing and cleaning special clothing, designed for protection from the particular hazards of an occupation, are fully deductible. The cost of suits or other street clothing that can be used for both business and personal activities is considered to be a non-deductible personal or living expense by the Canada Revenue.
Practice search
The cost of travel, lodging, and food associated with researching a new position or practice location are deductible.
The costs incurred for family members are non-deductible.
Locum assignment you can deduct travel expenses, including, public transportation fares, hotel accommodations, and meals, however, the 50% limit applies to the cost of meals, beverages, and entertainment. The costs incurred for family members are non-deductible
Automobile
The way in which you write off automobile expenses depends on whether you are self-employed or carry on your practice in a corporation.
As a self-employed physician, you can deduct two types of expenses: the operating expenses, which include gasoline, repairs, insurance, etc. and the fixed expenses, such as depreciation, leasing charges and interest expenses, which are subject to a dollar restriction.
As an employee of your corporation, you can receive a tax-free mileage reimbursement to cover the practice use. For 2007, the maximum reimbursement is 50 cents for the first 5,000 km, and 44 cents thereafter. Your trip from home to the clinic is considered personal, however, if you work exclusively at the hospital, such as an anaesthesiologist or emergency doctor, for instance, then your travel from home is tax deductible.
Tax Breaks for Students
Back to school in my household signifies that it is time for the annual ritual of drawing on the line of credit as I attempt to help my sons through university. When you prepare a budget with your children designed to assist them with managing their tuition-and living expenses, you should be aware of a number of significant tax breaks offered by the government for you and your student family member.
For The Student
Scholarship and Bursary Income The previous $3,000 cap on income has been removed; so all income from scholarship, fellowship and bursaries is exempt.
Tuition Fee/Education Credits For a full-time student, the 2007 federal credit for eligible tuition fees is 15.5%. In addition, there is an education credit available of $400 per month for full-time students dropping to$120 per month for part-time students.
Eligible tuition fees include mandatory charges such as use of laboratory, library, and computer services, including the use of a laptop. Any fees levied by student bodies do not qualify.
Textbook Tax Credit This credit is $65 for each month that the student qualifies for the full-time education credit. For part-time students, the credit is $20 per month. No proof of textbook purchases are required. For example, a student attending university full-time for eight months in 2007 is entitled to a credit of $81 (15.5% x $65 x 8 months).
Unused Credits It is important to note that any unused education, tuition, and textbook credits, up to a maximum of $5,000, can be transferred to a supporting person, such as spouse, parent or grandparent. Unused credits can be carried forward indefinitely. Students attending university outside Canada can transfer the credits, but only if they owe Canadian tax.
Student Loans There is a 15.5% federal tax credit on the repayment of interest on government approved student loans. However, interest paid on line of credits or bank loans does not qualify. The student loan interest credit is not transferable and must be claimed within five years.
RRSP Withdrawals Under the government's Lifelong Learning Plan, a student can withdraw up to $10,000 per year interest-free from their or their spouse's RRSP, to a maximum $20,000. To qualify, the student must be enrolled for at least three months in an educational program, including the medical residency program. These RRSP funds can be used for any purpose and are repayable over 10 years, starting within 5 years of the first withdrawal. The repayment will be accelerated, if the student does not claim an education credit for a three month period. The RRSP funds withdrawn must have been in the RRSP for at least 89 days, effectively preventing you from contributing to an RRSP, claiming the deduction, and then immediately withdrawing the funds tax-free.
Moving Expenses Students who pursue full-time post-secondary education, and who moved at least 40 km to do so, can deduct moving expenses from any income earned from a full-time or part-time summer job.
For Supporting Parents
In addition to the above student-related government incentives, there are a number of tax strategies available for those parents who are financially supporting their children.
The Corporate Loan Technique The corporate loan strategy is best explained with the following example. Your professional corporation, Medical Inc., lends $30,000 to your daughter to pay for tuition and living expenses. Your daughter reports the loan proceeds as income, resulting in a personal tax of, say, $3,000. If, in the future, your daughter repays the loan to Medical Inc. she can deduct the $30,000 payment on her tax return generating a potential refund of about $12,000. In summary, under this strategy the child reports the loan as income when in a low tax bracket and receives a tax deduction on any future repayment when in a higher tax bracket.
Paying Dividends The easiest method to reduce the after-tax cost of financing education is to designate your children as shareholders in Medical Inc. Depending on the amount of the tuition and education credits involved, many children can receive dividends of $50,000 or $60,000 without paying any income tax. Having a student as a shareholder is a great income splitting opportunity for the whole family.
Paying Salaries If your child is employed in the practice, the salary must be reasonable in terms of the amount you would you have paid to an unrelated employee. Since most children are only working part time in the parent's medical practice, the salary usually is inadequate to cover university expenses. To increase the salary allocation and avoid the reasonableness test, consider setting up an Employee Profit Sharing Plan (EPSP). This way, you can allocate salary at your discretion, without being challenged by Canada Revenue Agency.
It is worthwhile checking with your tax advisor to discuss the most suitable strategies for your situation, as the tax savings can be huge. And that means more money in your pocket!
Retirement Planning Mistakes to Avoid
There are no stock options, lucrative government or company pensions for self-employed physicians to ensure financial security during retirement. Your ability to divert precious cash flow into savings will ultimately determine the size of your retirement nest egg. Being among the top earners in your profession is no guarantee for a worry-free retirement. There are many doctors with huge career earnings, who depend on a small RRSP and Canada Pension for their retirement income. It is no fun living on a tight budget for the rest of your life.
While there is a network of competent advisors available to help you build wealth for your retirement, you cannot blame your advisor when your plan goes south, and you don't! It will always be up to you to make sure you are heading toward a comfortable retirement.
Here are a number of pitfalls and the reasons why so many doctors fall short of accomplishing the critical mission of financial independence.
Unlike members of other professions, physicians have the huge advantage of being able to practice anywhere, anytime, and for as long as they want. This benefit can turn into a curse, however, as it gives rise to the notion that you don't need to hurry to save for your retirement. With the attitude that you will be working for as long as you live, why put $20,000 into retirement savings now, when you can blow it on a fun Hawaiian family vacation? The idea that in the event you are running out of money, you can always put in a couple of shifts at the neighbourhood walk-in clinic, gives you a false sense of security. When your passion for your profession has waned, you are worn out, and now working purely out of necessity, you will feel like you have been sentenced to life in prison, and you will not be able to keep going.
Not living within your means.
Doctors spend too much of their discretionary dollars on big ticket items, such as boats and vacation homes. Over the last couple of years, many doctors have bought expensive recreational real estate, mostly with borrowed money. Precious after-tax dollars, which should flow into retirement savings, are now used to pay for the mortgage and expenses. Often these purchases are made on impulse, with little analysis as to the long term financial implications on the family budget. The purchase is often rationalized as a smart investment move. The prospect of realizing a gain on the eventual sale of the property, however, is illusory, when taking into consideration the ongoing cash support payments.
Saving too little.
Many doctors are under the impression that an RRSP represents the only retirement savings vehicle they need. Suppose you turn 60 this year and are planning to retire. For the last 20 years you have diligently made your maximum RRSP contributions, and the plan is now worth $540,000, assuming an average investment return of 7%. How much income can you expect from the RRSP, including Canada Pension and Old Age Security, if you draw out the funds over the next 30 years until age 90? Your after-tax monthly income, adjusted by an annual inflation of 2%, is $3,000. That's all! For some, this amount would barely cover the travelling and dining-out budget. If you defer retirement until age 65, then your monthly income will increase to $4,000. When you factor in income taxes, and inflation, the RRSP as the sole income source is inadequate for the majority of doctors.
Not paying yourself first.
The most effective savings mechanism for doctors is the "out-of-sight, out-of-mind" plan. Each month, a portion of your pre-tax practice income is automatically transferred to a savings account. Use the medical corporation as the investment vehicle, and your savings will grow 50% faster than saving the funds personally. Consider the 90-10 rule, where 10% of your income is moved into the portfolio account. Suppose over the 20 years you invested 10% of your $200,000 pre-tax practice income, or $20,000 each year. In addition, you made your maximum RRSP contributions. At age 60, you will have an RRSP of $540,000 as in the previous example, and also a non-RRSP investment of $560,000. You now have doubled your after-tax income from $3,000 to $6,000 per month.
Underestimating retirement spending.
If you can barely make ends meet with a monthly household income of $10,000, why would you budget for an income of $5,000 during retirement? Often, retirees seem to spend more during the first ten years of their retirement than they did when they were working. As a rule-of-thumb, plan for a retirement income of 75% to 80% of your previous disposable income.
Not making the tough decisions.
By age 50, with retirement looming on the horizon, saving money becomes a top priority. It often requires tough decisions to ensure you stay the course. You may have to tell your daughter, who you supported through years of university, that you are not able to come up with $300,000 for dental school, and that she has to apply for student loans instead. Or, you may have to break the news to your spouse that the $200,000 house renovation budget has to be trimmed down to cover just the necessities. There are always many demands on your cash flow, but you will need to make some difficult choices to remain focused on your savings goal, and that puts money in your pocket!
An Entrepreneurial Mind Guarantees Practice Success
Sure, technicians make a living, but entrepreneurs get rich. As a doctor, you are equipped with the superb technical skills required to give your patients excellent treatment, but the application of these skills does not guarantee your financial success. For a technician, the medical practice is simply a job, but entrepreneurs run their practices as a thriving business enterprise with many exciting opportunities.
After years of practice, the technician doctor approaching 50 will tire and slow down, which is often reflected in a dramatic decline in office billings. Entrepreneurs, on the other hand, 'live the business'. Their practices continually evolve, becoming a renewable source of energy and enthusiasm. The entrepreneur knows that attaining exceptional practice success cannot be achieved without being willing to take a few risks, such as taking out a large bank loan to purchase a state-of-the-art laser equipment to offer a new range of services to patients.
When successful entrepreneurs realize that they have made a bad business decision, they face the brutal facts, swallow their pride, cut their losses and move on. They are not in denial, nor do they indulge in self-recrimination. If you find yourself working in an unsuitable practice, due to inferior location, high overhead, or incompatible colleagues, then face the fact you made the wrong decision and move quickly to find a more fulfilling practice opportunity.
In your quest for the entrepreneurial road to success, you need to surround yourself with people who will assist, support you, and counsel you. Establish a support system of hand-picked professionals from both the medical and financial fields. Ask yourself: Do I have the best receptionist, assistant, or office manager? If the answer is a resounding 'No', then borrow Donald Trump's management method, and make changes without delay.
A common trait of entrepreneurs in any field is that they are totally focused on what they do, in spite of changes in their personal and professional lives. All their energy is spent in managing their business and pursuing professional excellence. In running a medical practice, it is easy to be motivated to service a large debt load and support a growing family, but those doctors who continue to pursue professional excellence once the financial pressures ease are the ones who will find ultimate success. When you are more interested in improving your golf stroke than attending seminars, or when you start "milking" the practice for all its worth to finance your hobbies, then you start heading downhill professionally. Stay focused, and continue to "raise the bar" of professional excellence.
Entrepreneurs are good at formulating goals and implementing them promptly. What are your most pressing goals right now? Paying off the mortgage? Getting the kids through university? Financially, where do you want to be 5, 10, 15 years from now? Write your goals down to give you a visual image and motivating force behind what you want to accomplish... One doctor's goal is to repay the mortgage in five years. Given his debt load, this was a very ambitious goal! He wrote his goal on post-it notes and stuck them everywhere in his office. When I met him, he was on track to meet his five-year repayment deadline. Never underestimate the power of written goals!
Writing lists and posting notes is one thing, getting the job done is another. Successful entrepreneurs know how to execute their plans in order to reach their goals. Procrastination and apathy are common afflictions, but must be overcome in order to turn your dreams into reality and enjoy the fruits of your labour.
While technical skills are taught in medical school, you are the only person who can kindle the entrepreneurial spirit within you. You can gather entrepreneurial experience by networking with your peers and colleagues, by attending business and practice management courses, by reading books, and through everyday experiences. Immerse yourself in the entrepreneurial mindset and get into the habit of working on the practice and not just in it.
Incorporation Benefits: An Update
The two most important tax benefits you can enjoy in setting up a medical corporation are tax deferral and income splitting. However, if you cannot retain practice income in the company thereby avoiding personal tax, or if you are not able to shift practice income to family members in a lower tax bracket, then incorporating your medical practice is probably not worthwhile.
Tax Deferral
Income in the corporation is taxed at 18%, and $82 out of every $100 of practice income is retained in the corporation to be used for investment or repayment of debt. To illustrate, a corporation would only need $121,950 of cash flow to repay a $100,000 loan. To pay off a personal debt of $100,000, you need $181,820 (assuming a top personal tax rate of 45%), or $59,870 additional income. In the absence of a corporation, you will need 50% more of your hard-earned practice cash flow to pay off debt.
The illustration below shows the benefits of tax deferral for Ontario.
|
Tax Deferral - Ontario (2007) |
|||||
|
CORPORATION |
|||||
|
Corporate income before salary |
$100,000 |
$150,000 |
$200,000 |
$250,000 |
$300,000 |
|
Less: salary to doctor |
(84,000) |
(84,000) |
(84,000) |
(84,000) |
(84,000) |
|
Taxable income - corporate |
16,000 |
66,000 |
116,000 |
166,000 |
216,000 |
|
After-tax income - corporate |
13,024 |
53,724 |
94,424 |
135,124 |
175,824 |
|
After-tax salary of doctor |
61,642 |
61,642 |
61,642 |
61,642 |
61,642 |
|
PROPRIETORSHIP |
|||||
|
Total after-tax income available personally and corporation |
74,666 |
115,366 |
156,066 |
196,766 |
237,466 |
|
After-tax income available to doctor |
69,417 |
96,898 |
123,693 |
150,338 |
177,134 |
|
Tax Deferral Advantage |
5,249 |
18,468 |
32,373 |
46,428 |
60,332 |
To ensure that you use the least amount of practice cash flow to retire debts, look for tax strategies to convert personal loans into corporate loans. To maximize tax deferral benefits, only draw funds from the company to pay for necessary personal and living expenses, and retain as much cash flow as possible in the company.
When the company eventually pays out funds to you in the form of dividends, you will be assessed personal tax. With proper planning, you can minimize the amount of personal tax you eventually pay. For instance, you can withdraw the funds from the corporation during a time period when you have very little other income, perhaps upon retirement from your practice. Keep in mind that when you and your spouse retire, you will have no other income and can therefore take out about $60,000 per year from the corporation without paying any tax. Planning well in advance can turn a tax deferral into absolute tax savings.
Income Splitting
For those of you who need every dollar of practice cash flow to pay off the house mortgage, or to help the kids through school, income splitting is the most sought after benefit of incorporation. When you allocate income from the corporation to family members in low tax brackets, you will reduce the overall family tax burden. Placing doctor and family members in the same tax bracket is perfect income splitting. The following table shows the income splitting benefits you can achieve by "sprinkling" income to members of your family.
|
Income Splitting Benefits |
|||||
|
|
|
|
Dependants |
||
|
Corporate Income After Doctor Salary |
1 |
2 |
3 |
4 |
5 |
|
$100,000 |
$16,400 |
$24,600 |
$29,500 |
$29,700 |
$29,400 |
|
$150,000 |
$16,400 |
$29,600 |
$37,200 |
$43,100 |
$44,600 |
|
$200,000 |
$16,400 |
$33,200 |
$42,700 |
$49,800 |
$54,600 |
|
$250,000 |
$16,400 |
$33,700 |
$46,700 |
$55,700 |
$62,300 |
|
$300,000 |
$16,400 |
$33,700 |
$50,000 |
$59,700 |
$68,800 |
Assumes Ontario doctor earning $100,000 of salary.
|
Income Splitting Illustration (Ontario) |
|||
|
|
|||
|
PROPRIETOR |
|
Professional |
|
|
Net practice income |
- |
$250,000 |
- |
|
Income tax |
- |
(101,600) |
- |
|
After tax cash |
- |
$148,400 |
= $148,400 |
|
|
|||
|
CORPORATION |
|
Professional |
|
|
Corporate income |
- |
$250,000 |
- |
|
Salary to Professional |
- |
(80,000) |
- |
|
Net income |
- |
170,000 |
- |
|
Corporate tax |
- |
(31,600) |
- |
|
Cash available for dividends |
- |
138,400 |
- |
|
Dividends allocated to your two children |
- |
(138,400) |
- |
|
Cash retained in company |
- |
Nil |
= Nil |
|
|
|||
|
PERSONAL |
Children |
Professional |
|
|
Salary |
Nil |
80,000 |
- |
|
Dividends |
138,400 |
Nil |
- |
|
Tax |
(14,200) |
(20,600) |
- |
|
After-tax cash |
$124,200 |
$59,400 |
= $183,600 |
|
|
|||
|
SAVINGS |
|
Professional |
|
|
After-tax cash (proprietorship) |
- |
$148,400 |
- |
|
After-tax cash (corporate) |
- |
$183,600 |
- |
|
Savings |
- |
$35,200 |
- |
Tax deferral and income splitting strategies are just two of the benefits of incorporation, but guaranteed to put money in your pocket!
Writing off Medical Expenses
Medical expenses can add up quickly. Consider new glasses, contact lenses, or even Lasik surgery for your eyes. Throw in some braces for your kids, and before you know it, you have accumulated over $5,000 worth of medical receipts. And when you take these receipts to your accountant in April, he will tell you that the expenses reduce your taxes by less than $700. Hopefully, he will also tell you that these expenses could have been a tax deduction in your medical corporation.
Claiming medical expenses of $5,000 on your personal tax return will give you a tax benefit of $ 680(B. C. tax rates). However, you will need to earn almost $9,000 before income taxes to pay for these medical expenses. Using your company to simply pay these expenses will not change the outcome. The corporate payments will be considered taxable shareholder benefits, and you will still end up paying with after-tax dollars.
The solution is to implement a Private Health Services Plan (PHSP). The PHSP allows your corporation to deduct medical expenses for you and your employees without generating a taxable benefit.
Medical Plan Options
Your corporation can cover medical expenses in a number of ways.
1. Major Medical Plans
When you think of health insurance, the major medical plans provided by insurers such as Sun life or Blue Cross immediately come to mind. These plans provide varying levels of coverage depending upon the amount of the premium you are willing to pay. The cost of such a plan can vary from year to year. If the claims increase, so will your premiums.
2. Administered PHSP
The PHSP is often implemented with a third-party acting as an administrator in a cost-plus arrangement. Under this alternative, your company contracts with the plan administrator to reimburse health-related claims of the employees. Employees will submit a claim to the administrator who will in turn bill your company for the amount of the claim plus an administration fee, usually 10%.
3. Self-Administered PHSP
When you carry on your medical practice in a corporation, there is no requirement for you to utilize the services of a third-party administrator. The big advantage of the self- administered plan is that you save the administration fees.
Implementing a PHSP
Establishing a PHSP in your practice is a simple three-step process:
A director's resolution should be prepared and signed to document the creation of the PHSP. There should be a written employment agreement outlining the parameters of the plan, including the amount of the benefit and the medical expenses which qualify for reimbursement. Once the plan is created, the benefits reimbursed must be tracked in your accounting system. You will need to monitor the amount paid to the employee in the year in relation to their entitlement under the plan. After incurring the medical expense, the employee will simply submit receipts to your corporation for reimbursement.
Shareholder Benefits
As with all good things, there is a catch. CRA may determine that the payments from your company to you are a benefit resulting from the ownership of the corporation as opposed to a benefit resulting from employment. Where CRA determines that you receive the benefit in your capacity as a shareholder, the company will be denied the deduction and the amount of the benefit will be included in your income. The result is double taxation.
A good defence against being assessed a shareholder benefit is that your plan should be offered to all employees, and the level of benefits under the plan should be commensurate with the employee's duties and expertise.
Where you and your spouse are the only employees of your corporation, CRA has indicated that it will look to the statutory limits available to the self-employed doctors who have no arms- length employees. Those limits are $1500 per year each for the doctor and spouse, and $700 for each child. This administrative position stating is a guideline only. The CRA has published many other documents stating that the PHSP benefits must simply be reasonable in light of the training, experience and responsibilities of the employee.