While many of my clients are shareholders in their own large private companies or are a part of complex corporate structures, I also deal with local entrepreneurs and new start-ups. Recently a client of mine who was a sole proprietor had decided to make the jump and fully incorporate her company. I mentioned to her that when consulting with her lawyer she should consider the usage of discretionary shares in separate share classes.
Naturally, she questioned me as to why she would consider using this tool in her company as this would involve more work with her lawyer. I informed her that through the use of discretionary shares she could legally income split revenues earned within the company to her husband at varying amounts each year depending on how each of their personal tax returns looked.
Essentially, discretionary shares allow a corporation to pay varying amounts of dividends to the holders of one share class without having to pay dividends to holders of another share class. It is as the “discretion” or choice of the company to whom the dividends are paid to. This allows for income splitting in the following ways. For example, I explained to my client that if she owned discretionary shares in Class A shares and her husband owned discretionary Class B shares they could pay dividends to one class without paying to the other and vice versa. They could also pay dividends in different amounts to each class of shares through dividend sprinkling.
The benefits from using this structure in your corporation allows for efficient and effective tax savings through the usage of dividends to shareholders in varying personal tax brackets. This is opposed to a single shareholder taking all of the dividends or dividends being paid out evenly across multiple shareholders in separate classes based on their percentage holdings.
While many think that this form of income splitting is for much larger companies or for newly incorporated entities, consider that even the “Mom and Pop” shop on your local street corner has the ability (if incorporated) to make use of discretionary shares even if they have been in business for some time. As long as your company is a legally incorporated entity it has the ability to issue and use discretionary shares. As always, make sure that you consult with your Chartered Professional Accountant and obtain the correct tax and legal advice before implementing.