Part 1 of our article “Dividends and Determining Child & Spousal Support” explained what dividends and grossing up are. Part 2 explains how these lines on the income tax form affect child and spousal support payments.
For child support, the primary concern is estimating the means which the paying parent has available for child support. The more income a paying parent has, the more they will likely be required to pay. For spousal support, the court may award support to a spouse to provide for their needs or to relieve economic disadvantage or hardship resulting from the relationship. The difference in incomes of the spouses will be a critical factor in this determination.
The rules for child and spousal support come from the Federal Child Support Guidelines (the “Guidelines”). While there are many factors and formulas, the court will always want to know the spouses’ gross incomes. For dividends, section 5 of Schedule III requires that the actual amount, rather than the taxable amount, be used to determine a spouse’s annual income. This is a critical difference since the taxable amount is significantly greater than the actual amount. However, section 19(1)(h) of the Guidelines states that the court may add to a spouse’s income when the spouse derives a significant portion of income from dividends. This is to ensure consistency between a spouse earning a salaried income and a spouse who receives dividends instead of a salary.
When a spouse receives a significant part of their income from dividends, the court will determine if that accurately reflects their ability to pay for support. In many cases, people restructure their income by using solely owned corporations, trading their salary for dividends. After this transition, the spouse’s gross income is much lower because the corporation paid the tax, but their net income will be relatively similar to their previous net income.
For example, Widgets Ltd. has an annual profit of $41,000. Last year the sole shareholder, Kim, took home a salary of $40,000 and a dividend of $724.64. Her net income was $33,217. This year she decides to replace all of her salary with dividends. After the corporate tax, she is left with a dividend of $29,710.14. Due to dividend tax credits, her net income is also $29,710.14.
Where a spouse is the sole shareholder of a company and elects to receive dividends from the company in lieu of salary, courts will usually use the taxable dividend amount for the spouse’s gross income when calculating child support. If the spouse does not control any dividends paid to them, then the courts are more likely to use the actual dividend amount.
Things change when the courts consider spousal support. Courts have repeatedly stated that the purpose of adding income in this way is to enhance the resources available for the benefit of the children. While not ruling out the possibility of imputing income to dividends when determining spousal support, court have been extremely hesitant to do so.
Altogether, corporations and dividends can be useful tools in structuring your income and taxes. For spouses that try and use dividends to reduce their child support payments, courts have the tools and are willing to add income in order to provide greater resources for the children. When determining spousal support, courts are more likely to use the actual dividend amount.
If you have questions about incorporation, child or spousal support, or any other legal matter, please call Toll Free:1-866-753-2202 or 250-753-2202 to contact Heath Law LLP Barristers & Solicitors for your consultation.