Eligible Dividends
Taxable dividend designated as eligible dividend paid by a Canadian corporation to a Canadian resident. Eligible dividend means that the dividend was paid from income that was subject to corporate tax rate (no small business deduction). Dividend is paid out of income left over after taxes have been deducted, dividend paid out has already been taxed.
Non-eligible Dividends
Dividends issued by Canadian corporations that have received the small business deduction are referred to as non-eligible dividends. These dividends have been paid out of income that was subject to lower rate of tax. Corporation receiving a small business deduction is not able to issue eligible dividends.
Why does it matter if a dividend is Eligible or Non-eligible?
Categorization of dividends matters as it has a tax impact on the person receiving the dividend. It all comes down to dividend gross-up. Dividend gross-up is intended to put the shareholder in a position as if the dividend was paid out of pre-tax income. This is done to avoid double taxation. Corporation has already paid tax on the income before it issued the dividend, therefore, the shareholder should not have to pay part of tax that has already been paid.
This is where the difference in eligible dividend vs non-eligible dividends comes into play. Eligible dividend was paid out of income that was taxed at a higher tax rate therefore, it gets a higher gross-up (38%) than the non-eligible dividend gross-up (15%).
Eligible dividend will be included at 138% in the shareholders income whereas the non-eligible dividend will be included at 115%. The shareholder will then receive a dividend tax credit for the tax already paid by the corporation.
A point to note here is that this only applies to dividends from Canadian corporations and not foreign income as the Canadian government should not have to pay a tax credit on income for which it has not collected tax.
Disclaimer: Information provided may not be complete or accurate. It should not be considered financial advice.
