Latest / The Chiro Money Show / 037 | The $9,000 Myth: What CPP Really Costs You w/ Aravind Sithamparapillai
Transcript
- Scott: Hello, Aravind. Welcome to the Chiro Money Show. Thank you for being here today. How we doing? Chris: Welcome back to the Chiro Money Show, where we're helping chiropractors make better financial decisions so they can build stability in their finances and a lifestyle that they love. We're your hosts Chris Scheele and Scott Campbell, financial planners for the Align Wealth. Welcome back. Aravind Sithamparapillai: I'm good, how are you guys doing? And it's an honor. Scott: Good, it's our pleasure to have you here. For our listeners, Aravind is a fellow financial planner. I can say this about Aravind, he is quickly becoming one of the well-respected voices in the Canadian financial planning space. He might not say that, but Chris and I, we strongly say that. We're pump you tires up a little bit here, Aravind, to give you some kudos. You were recently on a couple of big podcasts, one of being the Wealthy Barber podcast. Good to be back today Chris. Got an awesome guest on the show today. a great conversation. So we're gonna try and make this intro real quick and get right into the episode. But tell us Chris, who did we chat with today? Chris: Sir. We know that. Scott: If you're not familiar with probably the most popular personal finance book of all time, The Wealthy Barber, Dave Chilton he now has a great podcast that you should check out. On a side note, we will leave a link to that show in the show notes for you to check out. You're also on the Rational Reminder podcast as well. So on top of all that, you recently got your CFP marks last year in 2025, but what's unique about that is that you ranked Chris: Today we had Aravind Parapeli of Ironwood Management. He is a certified financial planner, ⁓ super knowledgeable, nerdy financial planner. Awesome dude. ⁓ yeah, we've wanted to have him on the beginning. ⁓ Our fifth episode, we ⁓ dove into dividends salary. ⁓ And one the ⁓ core components of that often comes down to Canada Pension Plan. And so we knew we wanted to have a guest that could or an episode anyway, that went deeper into Canada Pension Plan. And Aravind is the guy for that. Like he's done so much in on this topic. And yeah, did, we did stray from that a little bit, got back into dividends versus salary and talking about professional corps and taxation and all that good stuff. But it was a super Scott: first nationally on the CFP exam. So that leads well into how you coin yourself. You call yourself a pathological nerd, Aravind right? Is that fair to say? Aravind Sithamparapillai: Yeah, pretty much. think that's fair. That sums it up. I think Ben even said on the podcast, a pathological desire to into things at a level nobody else does. Scott: That's fair. Chris: Yep, yep, very fair. Yep, love that. I love listening to sidebar, the one, some commentary around like private equities and the questions you were asking in some of those rooms, like, ⁓ man, hilarious. Just asking the questions that no one else is willing to ask. It's great. Scott: So true. Chris: fun episode and very detailed. Scott: We'll do air quotes, Chris, fun episode for maybe financial planner nerds, but we did this conversation with you, the chiropractor, the professional corporation, making these decisions with your account, with your financial planner on whether or not you take salary or a dividend and the pros and cons to CPP. And we're gonna preface right away that the conversation does get detailed. Chris: That's right. Aravind Sithamparapillai: Yeah You know. The best part about all of this, and this ties into why we're here today too at CPP, is it always kind of starts with this, I assume somebody else has the answer to this question that I'm going looking for. And so I just kind of assume that, because I'm still fairly recent, I've been about five and a half, six years in the business. So you kind of just assume that like, ⁓ like if I have this question, someone else's, that's what we're always taught, right? If you have the question, someone else usually has the question. So I assume that someone else has already asked this question. Scott: We go in, but it's warranted. Like we can't have a conversation about the pros and cons of CPP salary dividends without getting a little bit technical. So bear with it. If you're in that situation where you're a professional corporation, you're thinking about these things, this will definitely be a really great listen. Aravind Sithamparapillai: ends up happening is people haven't asked the question or maybe the answer isn't clear. So then I start pulling on threads to try to figure out how to make it all come together. Chris: Yeah, that's so great. as that relates to CPP, what was the initial question that you ⁓ out to get an answer to with regards to Canada Pension Plan? And is that a good question to ask? Yeah. Yeah. All right. Enjoy this episode with Aravind Aravind Sithamparapillai: Yeah, yeah, it's a great question. what actually happened was it's a little bit of, to give some backstory, and I think this is really important to all of your clients, chiropractors, et cetera, to think about is there was sort of this blend of a couple of different lessons or things that I was learning that happened to all hit at once. And so we're all part of FPAC, Financial Planning Association of Canada, ⁓ Jason Pereira had done many of the webinars where he talked about corporate financial planning. And so he had discussed integration. so integration is this that when you pay yourself salary through your corporation or whether you earn income as a sole proprietor or whether you incorporate and pay yourself or the corporation earns the money, you get your net profit and then the corporation pays out dividends, that tax, the actual dollar amount of tax, if you're looking at more or less the same amount flowing through those three scenarios, should be pretty much the same. So he had drilled this point of integration home. So we see the webinars, we learn this, and then I go away and I start hearing all these whispers about the challenges of salary versus dividends, how much should I compensate myself? I couldn't, I didn't get it at first because in my head I was like, well, we just learned that it should be the same. So why does everyone care so much? Scott: Mm. Aravind Sithamparapillai: And then I was looking over somebody's tax return and they were a sole proprietor. And when you're a sole proprietor, you pay both sides of CPP personally. So you see the dollars go out. And when I was looking at a tax return and then when I was playing with the software for myself, because I'm a sole proprietor, I realized that when you add the numbers for CPP, it changes all of the tax credits and the deductions. And I started to... Like that's where the gears started turning to say, a sec. Okay, so I kind of understand that CPP is separate, but I didn't realize at that granular level that CPP has all of these different tax impacts. And so all of a sudden it kind of the whole narrative of integration and what are we avoiding? Why are we avoiding it? And so the question I then asked, I started asking was, hey, has anyone like looked at what the after-tax cost of CPP is? And that was the question where a lot of people were like, I have no idea what you're talking about. And then I would say, well, like, you what about the credit? What about the deduction? And a lot of people who had sort of hand waved it away would say, ⁓ it's not that big a deal. it's because, you know, like, okay, this only matters up to 80 K or 70 K, whatever the amount of income that's eligible for CPP. And so that's where the rabbit hole started, because I was like, hi, that doesn't check out either. And we'll talk about that when we break it down, but that would sort of be Like it wasn't a specific question, Chris, that came out, but it was sort of these different thoughts that hit all at the same time. but integration doesn't apply to CPP. Okay, so that makes sense. wait, but CPP shows up on our tax return. So there's a tax impact. Okay, how do we strip that out? ⁓ And then realizing no one had really at how to strip those pieces apart and then put them back together in the context of what we all do, which is holistic planning. So not just looking at the tax return today. but then saying what is the impact 40 years in the future? Chris: Exactly. Yeah. thing I want to ask you and ⁓ heard this so many times where a client will come to us and say like, my accountant can save me $9,000 in taxes ⁓ I do this. ⁓ is wrong with that statement? Aravind Sithamparapillai: So and get the confusion and I get sort of the, there's a little bit of a political piece to this too, right? Because at the end of the day, CPP is sort of this government mandated thing that we are paying into. And when we don't have a choice in a sense, it can feel like a government tax. And I get that. But ⁓ I at the two as different because when I look at general taxes and we all have arguments about good use of tax dollars, bad use of tax dollars, but in general, the tax dollars are going to support like ⁓ infrastructure, government services, et cetera, that we individually, so Aravind, Scott, and Chris don't directly have a claim to. Like I can't go to a hospital or a school and say, because I paid tax dollars, ⁓ am ⁓ entitled to this component of the service. We can generally use it. Scott: Mm-hmm. Aravind Sithamparapillai: We generally have access, our kids can go to school, we can go to a hospital, but we can't actually take our dollars and link them to the service. And so when I look at that, that's what I look at is taxes. When I look at CPP, there's a direct link between what we put in, the calculation, and what we are entitled to on the backend. Yes, a very big disconnect between the dollars we pay in and what we receive in 30 or 40 years, but there is a defined formula. a defined calculation, a track history of our contributions that determines what we are going to receive on the tail end. And so in that context, I look at CPP as an investment that I am entitled to. And so I look at my dollars very differently from the context of general taxes. I don't know if you guys agree or disagree, but like totally happy to take another perspective, but that is how I look at, you know, when I talk to my clients, like where do your dollars go? What do you get for them? That can be answered with CPP That can't really cleanly be answered with taxes. Chris: Yeah, no, that's a great, great answer. I really love that. It's each individual that contributes to CPP that chooses to participate ⁓ a business owner, it's a choice, right? So if you choose to participate, you will have a personal direct benefit that is directly correlated to the amount that you choose to participate. That's powerful. Then we layer on, layer on the other benefits of it, The way I like to share this is like, as close to a defined benefit pension plan as anyone's ever gonna get that doesn't have the ability to go and work for an employer that provides one. Aravind Sithamparapillai: Bingo. And it's a choice, right? Like in other cases, if you're an employee, a defined benefit pension plan or something like that, right? Like that's baked into your contract or it's baked into the arrangement. Business owners, incorporated business owners are in a very unique position. And I think it's fair that we sort of address this because people don't think about it often this way, because you have a choice as a business owner. This year, you could pay yourself salary. Next year, you could pay yourself dividends. You could pay yourself dividends for a number of years and then earn salary back on or vice versa. So when went down this rabbit hole, the way I looked at it, which also I think is sort of runs counter to how most people kind of looked at this problem in the beginning, was instead of treating it like 30 or 40 years of what if I pay money into this plane and what will I receive? Knowing that business owners, we could treat compensation as this lever that we switch on and off between salary and dividends. We can truly isolate. on a year by year basis and figure out what makes sense. And so isolating for a single year made the discussion or how do we break apart CPP much easier than trying to roll it all up into a 30 or 40 year time. Scott: Yeah. Chris: I want to come back to that question and ask you about like when you might choose to pull that lever and go between salary and dividend. But before we do, we got to talk about the true, the real net cost of CPP because it's not the $9,000 of additional contribution if you choose to pay yourself or compensate yourself via salary versus dividend. Tell us how you have come to understand the real net cost and what that roughly is. Thanks. Aravind Sithamparapillai: Yeah, great question. Great. It's a great start to that conversation. So I'm going to start and maybe catch people off guard a little bit, but I would say that when, when like your clients or when people look at this discussion and they say, Hey, if I paid myself X dollars, right? If my personal compensation was $150,000 in salary format, here's how much I end up with after payroll taxes, CPP et cetera. And then if I flipped it over to dividends, here's how much I might end up with. And so what people don't realize is when you look at that net differential and say, hey, the same amount of dollars flowing through, what is generally told to them is, oh, you will save eight or $9,000, whatever that CPP amount is, and that's how much more you will end up with in your hands. It's not actually true. The net amount, oh, yeah, go. Scott: Yeah, and before you go on that that point, Aravind, one thing to keep in mind here too, just to make sure that our listeners are clear on this. When we say, when we think about the growth, like the total cost, it's roughly around that just over 9,000 for 2026, but that's the combined total between the employee portion and the employer portion, And I think it's common for business owners in particular to say, well, that's not fair. I'm paying both portions. ⁓ must be a bad deal for me. And my accountant is saying that can essentially avoid paying that ⁓ and change into CPP by paying myself a dividend instead, And again, we're talking about what the true cost is here I'm excited to hear what you have to say on that, but ⁓ want bring that to Aravind Sithamparapillai: Bingo. Scott: listeners ears in terms there's a difference between if you're an employee for a business, for example, you just pay the employee portion ⁓ and skimmed on that briefly there, but I want to highlight that again is that when you are an employee of another business. you just pay the employee portion. But it's not quite fair to say that when you pay both the employee and employer portion, that's factored when businesses around the world make on hiring staff and what they can afford to pay that individual in terms of a salary. They're factoring that additional, ⁓ know, 4,000 and change in CPP costs that's coming as an expense to the business as well. Right? Aravind Sithamparapillai: Mm-hmm. 100%. Or flipping it. Even for your practice owners, if they're going to move from employee to owner, they wouldn't look at, you know, ⁓ my salary for my employees is the only component, right? Like you're going to add that CPP on top to say when we're budgeting for your business, when we're talking about how much in payroll, you're not ignoring the employer portion of CPP when you're choosing to make hiring decisions or expansion decisions. That becomes a meaningful cost that the employer is going to take into consideration. I think it's also important to highlight that this is one of the biggest, like if we talk about we want to remove our emotions ⁓ some of the numbers decisions, it can feel very ⁓ to think that you're paying more as a business owner. And so the default is to rebel against that or to lash out and therefore say, I just hate the idea of double the contributions. ⁓ I don't want to pay into CPP, which is fair. I we can all appreciate like no one likes getting a raw deal. But if we took a step back from that and we said, okay, we can't control that. So we just have to look at this based on this. Once we account for 2X the contribution, is it still worth it? Is there still a benefit into paying into CPP when all is said and done? And so while many people think that the number is $9,000 that they would avoid or keep personally. the number is actually gonna be closer to somewhere between five and $7,000 that they're going to have extra in hand if they avoided paying into CPP and they took all of that extra money as dividends instead. Chris: us why it's 5 to 7 and not 9. Aravind Sithamparapillai: Yeah. So CPP has a number of different tax impacts, I call them, when it comes to how they show up your personal tax return or the corporate tax return. So the employer portion is pretty easy. So we'll start with that. The employer payment of CPP shows up ⁓ a tax deduction ⁓ the corporate tax return, just like salary, just like other expenses. And so why this is important is Scott: Yep. Aravind Sithamparapillai: First of all, as a deduction, that means you don't get taxed on it like you would other net profits in your corporation. And second is, we were actually flowing that money out personally as a dividend, then you have to pay the corporate tax. And then when you receive that dividend, you have to pay personal tax on the dividend. And so when you consider that this becomes a item, that's a deduction to the corporation and therefore, at a corporate level or personal level, you pay no tax. There's a net differential there that becomes a meaningful tax savings if you consider what you would have received in hand. so that's one piece, corporate deduction. On the employee side, there is a credit for a component of CPP. So you get a tax credit and usually that tax credit will be calculated at the base federal and the base provincial rate. So you will get some tax savings there. Scott: Mm. Aravind Sithamparapillai: And then for the enhancement component of CPP, which is getting a lot more attention now because of the increased ceiling, the increased contribution, that enhancement is also a deduction personally. So the three major factors that everyone will see and pick up on are employer deduction, employee combination credit, and deduction. Now, in addition to that, actually I'll stop there for one second and say, how did these show up on your tax return? And so, A credit is pretty straightforward. The credit, there's a direct offset to the amount of tax owed, but the deduction, and this is what makes that range, why I gave a range and not what do you actually receive in hand, is because as many of your listeners probably know, deductions are more useful at higher tax brackets. So a deduction at an $80,000 personal salary has a certain amount of benefit, but that benefit is much bigger. if you were able to deduct when your salary is 200,000 or potentially even more. And so that's why there's a range because when we consider that roughly half, so call it about 4,500 for round numbers, there's a deduction impact on that. That deduction is gonna look different at an $80,000 salary versus a $200,000 salary. And because that deduction happens inside the corporation, not many people follow that flow of money through to then say, oh, what would that have been worth to me? at different income bands. So the other two, and these ones are weird, I say weird because they don't really show up on a tax return, and so you have to go looking for them. The first is integration. And so we talked in the beginning about how integration is this idea that if you pay yourself salary or you pay yourself dividends, the amount of tax dollars that you pay should be the same if you run the same flow of dollars through the corporation. That is mostly true, but when I say mostly, I mean, that depending on the province, there is a little bit of slippage, usually somewhere between a quarter of a percent to a percent. And so, and it kind of varies depending on like which income bands you're at, which credits kick in, things like that. But if you generally think that, you we're talking about a quarter to a half percent of tax slippage, it's usually in favor of salary. And what that means is, again, round numbers or rule of thumb, you could think that for every $100,000, of income that you're flowing through your corporation, depending on the province, you're losing about $500 to tax in the form of paying it as a dividend. You'll pay an extra roughly $500 of tax. So half a percent, $500 on a hundred grand seems like not a big deal. So why would we focus on that? And it's because if your sole purpose of paying dividends is to avoid CPP and you're sitting here thinking, well, I don't wanna pay CPP, I wanna skip this $9,000 tax amount. Well, we just talked about how the credits and the deductions knock a meaningful chunk off. So let's say roughly they knock off 1500 to $2,000, but now you're paying yourself compensation of roughly $200,000. That's an extra $1,000 that starts to bridge this gap or draw that gap closer. So $1,000 over 9,000. is a much bigger meaningful than ⁓ it to the actual original amount. And that's the piece that people miss is once you start adding 50 bucks here, $1,000 there, all of a sudden we start closing the gap on what CPP ⁓ means in terms of dollars out of our hands. Chris: What's the last one there? You had one more I think. Can I top and bid? Aravind Sithamparapillai: The last one is going to apply specifically to just a small, maybe not small, a meaningful population portion, but not everyone. And so that's why I leave the last one. And that is the dividend gross up effect. everyone will know, well, anyone who's studied their tax return will know that when they take non-eligible dividend, Scott: I have to pause you there, Aravind I don't think any of our listeners are doing a detailed review of their tax returns, so wouldn't know this. Aravind Sithamparapillai: Touche. fair. Chris: is something that's normal for EriVent ⁓ not for many other people. ⁓ Scott: Yeah. Yeah. Aravind Sithamparapillai: Yeah, you know what, I always say for granted that a lot of the time these conversations are happening with the accountant or another planner or somebody like that. ⁓ So people may know or their accountant may say to them eligible dividends and non eligible dividends. And actually, you know what, this is a great one for your listeners. ⁓ of looking at the tax return, if you get tax slips ⁓ any dividend investments that you receive from Canadian companies, Scott: Yes. Aravind Sithamparapillai: or if your company is paying you a dividend, you'll usually get a T3, I believe. And then you get that like slip that says amount of dollars received, and then the amount that you have to report on your tax return. And so what actually happens is the dollars that you receive is not what goes onto your tax return. There's something called the dividend gross up. And so the calculation essentially, grosses up or increases that dollar amount to what the hypothetical original income was, and that's what shows up on your tax return. Now there is an offsetting credit, so you end up in the same place on your tax return, taxes owed and all, but what people are missing is for families you might receive some income tested benefits like the Canada Child Benefit, that dividend gross up ⁓ bumps your stated income to a higher amount than it would be if you were taking the salary option. And so what ends up happening is you have a modestly higher reported net income. Yes, the credit takes care of the taxes at the bottom of it all, but that reported net income is what gets used for different government income tested benefits. so higher net income for many of your clients will mean lower Canada child benefit. And therefore, it's sort of this other invisible or shadow tax that they're not seeing, but it still impacts the net amount of dollars that you're receiving at the end of the day. Scott: Yeah. you goes back to that like true cost of CPP, right? That's another thing that's kind of going against the true cost of it. When you just say I'm saving myself 9,000 bucks by not paying into it. Aravind Sithamparapillai: Exactly, exactly. And again, people are probably asking like, well, how much is it? And I wish I could say that there's a clean answer, but the clawback rate for Canada child benefit depends on how many kids you have and the amount of income that you're taking out. But I can say that it's meaningfully going to be in the hundreds of dollars, so not thousands. But again, we've nailed down that there's probably one to $2,000 of tax savings via all of the impacts of CPP, depending on the amount of income. somewhere in the $500 to $1,000 of savings for integration and efficiency. And so now we're adding a few extra $100 of savings or really penalty for the candidate child benefit. So you can see how that claim starts to become a reality when I say that the net in hand extra that you receive isn't nine grand for CPP, but probably closer to the five to $7,000 range. I'm sure everybody's head is spinning right now. I'm sure all the people listening are like, whoa, hold on. I have to keep track of this, I gotta keep track of that, I gotta keep track of that. And that's why I open with five to seven grand. If you want your accountants to sort of battle test it prove it wrong, ask them to run the same amount of money through your corporation as a salary and the same amount of money through your corporation as a dividend as it would show up on the tax return and ask them how much. Chris: Hold on, hold on. Aravind Sithamparapillai: of a difference, what is the actual dollar amount of difference, you will see. And then remember that you're not going to see Canada Child Benefit as that subsequent impact. The other four will be captured via the flow through the tax return. Chris: Cool. Should we talk about some of the biggest objections and like myths or experience working with clients and that kind of stuff? Yeah. Okay. Scott: time to put our skeptic hat on. Aravind Sithamparapillai: Haha, yeah, let's do it up. Scott: we could do, we have two that I want to hit on. One would be, you know, my accountant says or I think that I should just pay myself as little as possible from the corporation and essentially just build my nest egg inside the corp. and then maybe after that we want to touch ⁓ on the... I can do better than the returns of CPP. want to take my, I think $9,000 and invest that on my own and I can get 7 or 8%. That's just going to net me more than what CPP can do. Right? So those are the two I would love to do. They are very connected. Yeah. Chris: Yeah. They're pretty much connected, they are distinct thoughts that clients would have. Aravind Sithamparapillai: Yeah. Scott: Yep. Aravind Sithamparapillai: So why don't I tackle it like this? Because the first piece that people often ask is, so like, that's fine, Aravind, but I don't really know how much this CPP is gonna be worth to me when I retire. And in general, I could invest in whatever, and markets have been great recently. And so that is typically the first is like, but CPP returns aren't even that good. So it doesn't matter to me. The first thing I would say is most of the people who have measured like what is the return to you as the business owner, you as the person paying in, they're always measuring top line to top line. So they're saying, hey, when we put in eight grand or nine grand a year, and then what are we entitled to on the back end? What does that come out to? And so whenever anyone throws around the one or 2 % rate of return numbers, that's usually what they're measuring top line to top line. Now that's not fair for a number of reasons. The first and most obvious is we just discussed all of the tax. impacts that come into play. The second is that because it's inflation adjusted, there's some very geeky nuances that I will not ⁓ anyone to tears on when it comes to how is inflation calculated, wage versus CPI. But in general, there's a few factors on the inflation side that play out in favor of a stronger return. for you as the business owner when you're collecting that CPP on the backend. And so it became very difficult to say, okay, how do we blend all these pieces together to come up with the appropriate rate of return? And so instead what we did was that's how we ended up on this year by year style approach to what is CPP worth? And so we tested out a few different case studies. What happens if you contributed in your mid to late 20s for a single year? And we just followed that single year. for the next 40 years and we basically said, where will we end up in four years when you're 65 and you want to take one year's contribution worth of CPP? The visual analogy for everybody listening is the way generally CPP applies, think of it like a pizza pie And so when you contribute for a single year, you are basically getting in the tail end, at retirement, essentially like one 40th or one fraction of this pie as your entitlement for CPP. So what is this one contribution to what would a full pie of CPP be worth? But now we're only gonna collect a fraction of it. And so that's how we ran this assumption or this model to say, ⁓ is that one year's contribution potentially worth to me as a business owner, knowing that I can make this this decision every single year. In your early 20s, the rate of return on a essentially an after-tax basis somewhere in the three to four percent range. So that is the guaranteed after-tax ⁓ So we bake in those inflation assumptions, nominal rate of return, which is still pretty good when you consider that that's like your guaranteed rate of return compared to a GIC. And with a GIC, you still got to pay all that tax. So that's the first piece. But what was really interesting ⁓ That's kind of like our baseline or our low case. As you get older, the rate of return gets higher because you're not forced to compound this money for 40 years hypothetically. Like as an example, someone who's 64 and makes a single year's contribution is gonna start collecting that fraction of a pie next year. And then theoretically collect it for... 15, 20 years they pass away. And so when we look at that type of rate of return, we're looking at almost double digits. So it's a range, but if you start with your base case as three to 4%, knowing that you creep up to double digits, the hurdle rate becomes very, very tough to beat. And yes, this accounts for the 2X contribution, this accounts for the after tax impact. And so when I look at that, say, mean, even in a full stock portfolio, you can't guarantee that range at all. And so now we have this guarantee after tax, we put it to the side and forget about it. That's a pretty strong argument to make for investing into CPP based on what you would expect to collect on the backend. And so that's usually how I tackle the rate of return piece, which then I think comes back into the discussion both of you brought up, which is, well, what kind of rate of return hurdle do I need and should I just keep all of my money in the corp? so ⁓ challenge with the corp is gotta pay a lot of tax whenever you're realizing capital gains, whenever you have foreign dividends, eligible dividends, interest income. And so once you strip away all of the tax drag that happens with investing in a corp, and now you look at what is my after tax rate of return, that's an exceptionally hard hurdle to hit to match CPP. and you're carrying a lot of uncertainty versus the CPP implied guarantees that come along with it. Chris: Yeah. Yeah, that's the part that that I always come back to is like risk component ⁓ investing as go and build our own portfolios and manage our own accounts and our own behaviors around that. All of that ⁓ has outsourced by that one decision to contribute to participate in Canada Pension Plan. that three to four percent rate of return is in essence guaranteed. Anything else you would add for like the case building nest inside the corp only? Aravind Sithamparapillai: it Yeah, and I think it's fair to say, like what a lot of people also don't realize when we talk about this is, you know, we are microscoping into CPP, but you have to be able to like take a 30,000 foot view and look at everything and then jump back into CPP and take a look. And so we'll. when I look at all of these different impacts and these different pieces, it's saying like, okay, we've microscoped in to solve the single puzzle piece and then we have to zoom back out and take a look at everything else that's happening around the fringes. And so the first is I love corporations. I think corporation planning, I think the ability to defer income in your corporation is so useful, whether you're treating the corp as like a holding company for your passive investments or... whether you're scaling up your business as a operating business owner. But the passive investment tax drag is really big. so thinking through what does that mean and how does that impact our overall planning is massive. Scott: you ⁓ touch on the difference for our of what the difference is and the impact of like passive investment income versus active business income? Because there's a big difference there. I don't think a lot of business owners really put those into context of what the tax impact is of that. Aravind Sithamparapillai: Fair. Yeah, great question. So when, for a lot of your Chiro listeners, when we talk about active income, we're talking about the fact that you set up this corporation and now you're working via this corporation and generating income or revenue as a chiropractor or all of the affiliated pieces that come with the practice. So directly related to the business. And so that is what gets that preferential tax treatment. at that small business rate, which I believe in Alberta when you blend it is at 11%, federal plus Alberta. So 11%, you get taxed 11 % on what's called active income. That active income is, is it core to the business? Is it core to ⁓ your services that you're providing are? Now passive income is hit this phase as a business owner, Scott: Yes. Aravind Sithamparapillai: you've grown your business a little bit, you have all this extra profit left over, you've paid yourself, and now you're saying, hey, I'm sitting on 50K, 100K, a million dollars that I do not need personally, but I want to keep either for my retirement or I just need to save and invest because maybe I'm going to expand to a new building in a number of years. you take that money and you now go buy a long-term GIC with it, or you invest in a portfolio of stocks and bonds, all of the income that is now being gained from that passive investment has a different set of tax rates applied to it. We won't go into all the weeds, because that's when people will really start, their heads will really start to hurt, but you can generally think that the tax rate on the passive income, depending on whether it's dividend, capital gains, interest, Think of it as it's going to range between 30 to 50%, with a lot of it being taxed at that 50 % rate. Capital gains and eligible dividends are the only ones that get seriously preferential treatment, but in general, you get a much, much higher tax rate in your corporation on those passive investments. Chris: once they've reached a certain point, correct? Aravind Sithamparapillai: so keep in mind like the upfront tax, so interest income as an example is going to have that high tax rate. What you might be thinking of Chris, just to confirm as you're thinking of like the grind down of the small business rate, that is a secondary or a knock on effect. The upfront impact is that you are going to be taxed at a very high rate on passive investments in the corporation. Now, because of integration, the government says, Hey, all this passive investment stuff that you've done, if you take all of that Chris: Yeah. Aravind Sithamparapillai: passive investment income and you essentially mimic a dividend out for it, we will give you a bunch of the tax dollars back because you're going to pay that tax personally. But that high tax rate, the punitive impact forcing the flow of money, that's all going to apply on the first dollar that you invest and the percent that you gain on it in the form of dividends, foreign dividends, interest income, capital gains, et cetera. Different rates for different types of income, but that higher tax burden applies on every single dollar of realized income. Chris: And then once we get above that threshold of minimum investment income that the corp is generating, we lose benefit of the small business deduction, which essentially means now our business, our active income is paying a higher tax rate across the board. Scott: Mm-hmm. Aravind Sithamparapillai: Yes. Yes, yes. this is where, so what I would, you guys cool if I take a step back and like I try to break it down and sort of like, you know, government incentive policy speak, but like how it applies to all of your chiropractors. So the way I talk about a corporation, when I'm talking to operating business owners who like they kind of understand corpse, they don't fully know all the nuances is say, hey, listen, the government. Chris: Yep. Do it. Aravind Sithamparapillai: created incentives, or they've basically said, we want people to be innovative. We want them to go out and start businesses. We wanna ⁓ them to help grow our economy and boost our economy. So, if set up a corporation, the profit that you retain in your corp, we're gonna tax you at a lower rate. Now, why would they do that? It's not because they're just being ⁓ generous, because they're saying, hey, if we do this, you're gonna have more dollars. If you have more dollars inside the business, then you can expand faster. You can buy more equipment. You can hire more people. ⁓ more profit. So the ability to maybe sustain this business and get it to a point of, you know, self-sustaining profitability, we've given you the ability to do that. And by doing that, you now create more goods and services, boost the economy, hire more people. That's ⁓ incentive of corporations in a nutshell. Now, as we do in our job for our clients as planners and as accountants do, we then look at what are all of the factors that we can essentially leverage or exploit to help our clients retain the most money and what can we do with it? And one of those is take the extra profit and even if you don't need it to expand your business, inside your corp in those passive assets. And so then the government said, well, that's not really the core point of what we wanted a corporation for. So how do we force people to like go back to investing in actual active business income? And so they said, let's do a couple of things. The first, we're going to charge you a much higher tax rate on the passive investment income. And so 50 % on interest income as a rough round number is a lot higher than 12 % in your active business. So that alone would create the incentive to say, well, I don't want to take my dollars and put them towards something that I'm to get taxed 50 % on if I can go expand my business or buy a piece of equipment, et cetera, and earn more profit at that 11 % rate. So that's one piece. Now that breaks this concept of integration because we have no mechanism to mirror what happens personally. So that's where the government said, but if you take all of that extra income and you pay it out as a dividend, we'll give the corporation a refund and we'll go take our tax dollars from the individual who's receiving the personal income. The second piece though is they then said, okay, well there's still people that kind of hit this point where they just don't want to grow their business anymore and now they're able to just grow their profits at a ginormous rate and they're going to keep this business for a while. So we're not going to be able to collect any additional tax dollars from them. So what they said is the more that your passive income grows, once it crosses that $50,000 threshold, well, we gave you this preferential tax treatment of 11 % based on the idea that you're gonna take those profits and you're gonna continue to expand and grow your business. If you're not gonna do that anymore, and instead you're just gonna expand your passive portfolio, well, we'll start penalizing you. And the way we'll do that is the more passive income you generate, the smaller that 11 % ceiling will be. for the purposes of being able to earn active income at that low rate. And so that's how those pieces philosophically come together. And that's why it becomes really important both for the client and for the advisor accountant to be thinking about how much investment do I have in my corporation? What's the breakdown of the income being generated? So on and so forth. Chris: Great explanation. Love that. kind of want to go right to the question that you kind of brought up earlier of when might be an optimal time to decide to pull that lever and go between salary to dividend for a year or a number of years. Like what are some things that trigger in your mind when you're working with a client that you think, okay, maybe this is a year that we would consider doing something like that. Aravind Sithamparapillai: Yeah. So the first is if you have passive investments in your corp and those passive investments have generated a of passive income, whether in the form of eligible dividends, non eligible dividend or foreign dividends, interest income or capital gains. Because what happens is we talked about those high tax rates. And so generally the government says, Hey, if you pay out a dividend of a certain type, the those they essentially go into this like shadow bucket for the government. And so the more dividends you pay out, the more you get a refund from the shadow bucket of all those high taxes that were incurred on the passive investments. So strategy one is sure that you ⁓ paying out dividends to clear out what are called in like advisor accountant lingo, notional accounts. Notional meaning they're not directly tracked on the tax return, but they're sort of these shadow buckets sitting with the government. And so one of the things is, Do we track those notional accounts? Do we pay out the right dividends every year to empty those notional accounts? Because nobody wants to like tax refund dollars sitting dead with the government. So that's one reason. Second big reason is if you hit a point where you have maxed out CPP, because again, it's about 40 years to get full CPP. So 25 to 65. But let's say maybe you worked for a few years as a full-time employee before that, or if you are in a situation where you've had kids and the government gives you sort of those dropout eligibility provisions, a lot of those become factors where you might hit the full CPP entitlement and maybe you're working a little bit later and you decide, hey, I'm going to keep working for a couple of years past 65 because I like it, because I want to. Those might be situations where you've already hit your max CPP entitlement, you don't really need to make any more CPP contributions. And so that would be a reason that flipping to dividends makes more sense. this happens more in like physician settings. I don't know if this happens in Chiro settings a lot, but if you're an employee somewhere, like say if you're on staff at a teaching institution or something like that, where you have that employee like situation already for a chunk of your income. So you might be maxing out your CPP over there. And if it's high enough, you might already have a lot of RSP room being generated. So there is no substantial impact or benefit to doubling up on CPP contributions via your corporation. And so that would be a reason to also consider. Scott: this has been a great conversation. want to step back and kind of zoom out, look big picture again here ⁓ on CPP. talked about the true cost of CPP not being that $9,000 mark. It's in reality lower than that once you factor in all the things that we discussed earlier in ⁓ the conversation. I want to dive in and talk about in more detail is that I think from our perspective as planners, we ⁓ help clients their wealth from an optimization viewpoint of ideally in most cases for the conversation that we're having, in most cases, we feel strongly for tax integration leaning slightly towards salary, the benefits of CPP, that a client is growing their wealth over time by growing their RSPs, maybe their tax-free savings account, and maybe as well as growing wealth inside their corporation as well. so that when they get to retirement, they have these different tax levers to pull to optimize their tax burden come retirement. But if we step back even further and think, all right, I'm growing my wealth in my RSP, TFSA Corporation, for example, combination of stocks and bonds in those portfolios, I wanna talk about how CPP is a unique asset class on its own. And people view CPP, I think people need a refresher or need to understand that CPP is not the same asset as their stock and bond portfolio. You agree? Aravind Sithamparapillai: Yes. That's a great point. I do, I do, because moves independently ⁓ markets, right? If inflation is high, as we saw in 2022, then your stock and bond portfolios can be negatively impacted. Either they don't grow enough to keep up ⁓ they take a hit like bonds did especially, but CPP is inflation adjusted. So when you have high inflation, it's one of the few ⁓ or income streams that will reliably go ⁓ with inflation. And so there's a bunch of hedges. Scott: Correct me if I'm wrong. I don't, for my understanding... is that when it comes to like it's like a pension, like it's almost like if you were to buy an annuity where you essentially pay a lump sum and you get a guaranteed income stream, say over retirement, you can't, you can't go on the private market and buy a private annuity that's guaranteed to increase with inflation. You can usually buy a fixed rate annuity where it's going to go up at say two or 3%. But that's very different than if inflation goes to 8%. Now, if you have CPP and you're collecting that, now your benefits going to go along with inflation, right? Like that's a pretty rare asset class that has that unique aspect to it, Aravind Sithamparapillai: Totally, and I mean, like there have been attempts and this is outside of my scope of history or expertise, but there's two problems with when insurers come to market with products like that. Because the first is only way it gets cheaper is if you have a ton of people opting into it. And in general, as we know, there seems to be this thing where people struggle with cutting a big check for an annuity. ⁓ so there's tons of research on that. ⁓ you're not gonna have a lot of people who ⁓ opting into that. The second piece is, population and so something like CPP or whatnot, ⁓ much as I hate to say it, like ⁓ relying on that population average. So you have some people that die early, some people that die late, ⁓ on and so forth that get to these joint rates. The type of person who ⁓ into ⁓ annuity ⁓ is self-selecting because they're like, I'm healthy, my family history is great, I don't have cancer, I don't have any conditions. So there's gonna be a selection bias where the insurance companies are like, we gotta price this for the healthiest population, because we know that those are the people that are gonna buy this annuity, not somebody who's going to, you know, for sure know that they're gonna die in five years. So those factors make it just really hard, borderline impossible, to come up with competitive private market product that matches what you get for what you pay into CPP. Plus it's guaranteed, right? Backstop by the government. So when you look at all these pieces and the fact that it's gonna provide you this guaranteed income stream for your entire retirement, I mean, it functions like a bond, but with like a bunch of extra perks or components that come along with it that you don't get with bonds. And so that does make it a very different investment or a different asset class. Scott: Yeah. What are the other risks that you see CPP hedging against that's different? That's different from your stock and bond portfolio that you have in RRSP, TFSA or in your corporation. Chris: great. Aravind Sithamparapillai: Great question. ⁓ So what everyone I think wants to hear, so I'll answer with like the investment to investment comparison, but knowing that we're getting close to the tail end, and this is probably a little bit longer than maybe even your usual interviews, I talk a lot, I apologize. The first is, look, there's a behavioral component, right? So when we think about investment versus investment, of us ⁓ get to the point in our retirement, nobody is a perfect robot, and markets as we head into retirement, we will instinctively want to pull back on our spending a little bit. I have yet to meet somebody who wouldn't react that way and be like, yup, I can keep spending the same amount and increase it next year for inflation without second guessing it. CPP though, just like every other defined benefit pension, and that's why people love their pensions, provides that guaranteed, this is your money, spend it however you want, cause you're gonna get the same amount plus a little bit next month. You don't get that with other investment asset classes. So in that sense, that is a very different and functionally and behaviorally different investment that you're buying. And you need to consider that. I will also say that what a lot of people discount, but I find very important is that CPP has a whole bunch of other insurance provisions baked in. If you pass away early, there is a spousal survivor benefit. If you pass away in retirement, there is still like a spousal top up amount. that gets paid out to your spouse, subject to some ceilings or provisions. If you have kids and you pass away early, your kids are still minors, there is an orphans benefit that gets paid out. And many people don't know this, but the orphans benefit can sometimes be extended if they're in post-secondary schooling. And then there's a disability benefit. And so when you add all of those pieces up, plus a flat dollar amount that gets paid out when you pass away, if you look at all of those pieces, there is ⁓ perks or benefits or protections that are there that you, if you try to pull those out and price them individually, brings the cost of CPP down even more. And so I would say like there's so, there's very, very few scenarios where you lose with CPP because if you die early, spouse and kids receive a component. If you die late, then you get the pension, right? Like you have to really fight to find a finite period of time. where CPP comes out as like a net, lost perspective. Chris: ⁓ Aravind, this has a great conversation. We really appreciate your insights. Some of the key takeaways that we want to just reiterate for our listeners, CPP is a pension, not tax. ⁓ That's the way we want to reframe we think about it. It's a portfolio asset and it ⁓ has its own kind of intricacies that separate from any other portfolio you might have. Aravind Sithamparapillai: Yeah Chris: It's really important that we run the real math, not just the napkin math where we look at the $9,000 headline and ignore the deductions, credits and integration components of it. I think this one's really important. We've, kind of talked about this a little bit, but not explicitly stated, but your accountant and your financial planner need to talk. They need to be connecting and on this together on your behalf. Anything else, Aravind, that you would like to add for our listeners? Aravind Sithamparapillai: It's a decision that you make every year, right? Whether you are making that decision on autopilot or not, technically it's a decision you can make and are making every year. So having the right people like you guys, knowing your incorporated Chiro clients, like having someone who's in your corner, who understands those nuances so that they can be proactive with helping you and your accountant with thinking through this on an annual basis, I think is fundamental. And I think it's really overlooked in terms of how optimizing on a year over year basis. can be beneficial. make sure you're keeping them informed and make sure you have somebody who knows your business in your corner talking to you. Scott: Awesome. Well, thank you so much, Aravind. Before we let you go, where can people find more about yourself? definitely want to link some of the other podcasts that you've been on because they were great conversations as well. Aravind Sithamparapillai: Thank you. I'll ⁓ along my social media content to you guys or my LinkedIn, Instagram, et cetera. And the other area that I'm trying to be better at is a sub stack. So I'll drop a link to my sub stack so that, you know, that's where you get some of those long form geeky thoughts. So for anyone who wants to know how I think about things or go a little bit further, that's probably the easiest place to find my unfiltered long form, if you will. Chris: it. thanks so much, Aravind You're awesome. Aravind Sithamparapillai: Thank you guys, appreciate it. Scott: Appreciate you being here. Thanks everyone. See you next week.