Want an extra million just from tax savings alone?
(That’s the sexy headline.)
Let’s look at $60K from a salary versus $60k from eligible dividends
Now let’s max out that salary tax-efficiency
That salaried person, gets an RRSP contribution room up to 18%.
18% x $60,000 = $10,800 set aside into savings
Let’s say to lower their taxable income, they max that out:
|RRSP 18% credit||-$4,009.00||$-|
|Taxes after RRSP||$13,776.00||$6,265.00|
You definitely drop those taxes down to $13,776 which is excellent, but you are still paying $7511 more than someone who has an income of just eligible dividends.
Let’s look at what they end up with to spend, after taxes
We are assuming the Salary maxes out their RRSP but Dividends also saves the same 18%
|Taxes after RRSP 18%||$13,776.00||$6,265.00|
|Net Yearly Income||$35,424.00||$42,935.00|
|Which is this net Monthly income||$2,952.00||$3,577.92|
On Dividends, you end up with an extra $625.92 a month, or that tax difference.
If we then assume Eligible Dividends is smart, and decides to take that tax savings of $625.92 a month and invest it instead of spending it, they will end up with an extra $1.127 million over the next 35 years at a 7% interest rate.
Now, this example is clearly not 100% solid because…
WHO THE HECK HAS ELIGIBLE DIVIDEND INCOME OF $60K A YEAR UNTIL THEY HAVE A LOT SAVED!?!?!?
Yes. I fully recognize this. That’s the one flaw in all of this.
This chart might come in handy to show you how much you need invested just to get that income:
$60K is missing from that list, but you need anywhere from $1.2M to $2M in INVESTED CAPITAL to pay off $60K in pre-tax income, assuming the yields are 3% – 5%.
To have $1.2M to $2M saved, takes a long time.
We are looking at the tax-efficiency perspective of this all
THEN AGAIN!… this post is purely looking at ways to save and be tax-efficient, and getting off the salary bandwagon is one.
That’s the only purpose of this post, rather than how realistic it is (it isn’t. I mean, really…) so that doesn’t mean we can’t think about other ways this could be interesting for people at lower income levels than a Kardashian.
Also.. Eligible versus Non-Eligible Dividends
This confused me for a long time until I started my business, and I don’t want to get into too many tax details, but roughly speaking:
- Eligible dividends = Likely what you are getting from your funds and stocks, as they are from big companies
- Non-Eligible dividends = What you take out from your small business in lieu of salary
The taxes are different for the businesses depending on if they are eligible or not, and then the taxation to you as an individual also changes if they are eligible or not.
If we look at the end of retirement when this matters and we likely have a large stash of cash saved, the tax withdrawal rates from an RRSP/RRIF versus most of the income coming from dividend paying sources instead, is a difference of about 13.9% in tax savings.
There are some cons against dividend investing mostly surrounding having to research to choose the right dividend stock and betting on the ‘right horse’, to gain capital as well as dividends over the long-run while being diversified.
In light of recent times, companies like hotels and restaurants which used to pay dividends have been cutting them, and that’s another risk in investing in them.
However, there are a lot of people out there who use this strategy to great effectiveness (I know a guy who brings in 6-figures in his dividend portfolio which he lives off on), and whether you choose fully index funds or dividend stocks, or like me, 50/50 strategy to gain the best of both worlds, it is something to look into, if not for the benefits in tax-efficiency.
P.S. You can read more about my Tax Efficiency Strategy: What I plan on doing as a long-term plan to minimize taxes where I work out my retirement strategy with an angle on tax-efficiency and what it would cost.