If you have your own financial advisory shop or have clients who are small-business owners, you might want to rethink how you or your clients obtain pay from your businesses.

That’s the message from a new report issued by Jamie Golombek, managing director of tax and estate planning with Canadian Imperial Bank of Commerce’s private wealth-management division in Toronto.

Out is the age-old advice of paying yourself enough salary so you can maximize your RRSP contributions, suggests Golombek’s research report, entitled Rethinking RRSPs for Business Owners: Why taking a salary may not make sense, which was released last month.

In, now, are dividends — despite the fact they aren’t considered earned income and, thus, don’t qualify small-business owners to contribute to RRSPs.

In fact, Golombek reveals that small-business owners would accumulate more wealth on an after-tax basis by leaving their money in their companies and investing in a portfolio of investments over a 20-year period than if they took money out as salary and maximizing their RRSP contributions.

If the small-business owners need the cash, they may actually pay more taxes if they take a salary than if the same funds are taxed within the business and then withdrawn as dividends. And if business owners don’t need the cash for day-to-day living, they give up a significant tax deferral by taking a salary, whereby the money is taxed immediately, instead of leaving it in the firm, where it will be taxed at the “much” lower small-business corporate tax rate.

“If you don’t need the money right now,” the report says, “there’s a 30% tax deferral advantage by leaving it in the company.”

In order to contribute the maximum $22,450 to an RRSP in 2011, a small-business owner must earn a salary of almost $125,000.

Since joining CIBC in 2008, Golombek has done much work with small-business owners on their succession planning, tax planning and finding the right way to manage their taxes. He says the small-business tax rates across Canada are quite low — with Manitoba being the lowest at 12%.

In addition, he says, the tax-deferral opportunity of funds left in the corporation range from 25% in Alberta to more than 35% in Prince Edward Island.

At retirement, instead of withdrawing money from an RRSP or RRIF to fund day-to-day living, the small-business owner would sell corporate-held investments and take the after-tax proceeds as a non-eligible dividend, Golombek’s report suggests: “That leads to some significant opportunities. With these low rates, there has to be an advantage of dividends over salary.”

What Golombek found most interesting is that it didn’t matter which investment vehicles were in the portfolio — whether 100% equities, a balanced portfolio or all fixed-income securities.

“We found even with a fixed-income portfolio, when you leave money in the company, you have to pay taxes every year on the fixed-income compared with an RRSP, in which the fixed-income is deferred until the RRSP is cashed in,” the report says. “Because of the difference in tax rates, you ended up with more money on an after-tax basis by leaving the money inside the company.”

Golombek says he realizes his findings will be controversial and he’s sure others will dispute them and come up with their own models and assumptions in response.

“I’m comfortable with that. The idea is to spark debate, and I welcome that debate,” he says, noting that he worked with Deloitte & Touche LLP on his model. “I hope to get a discussion provoked between business owners and advisors, where they sit down, do the math [and ask]: ‘Do I have the right strategy? Do I have the right compensation mix of salary and dividends, and where are my investments?’

“In conjunction with advisors and accountants,” he adds, “we could probably get a much better optimal savings structure for many Canadian small-business owners. [The report] doesn’t answer every specific question, but I tried to give directional guidance as to what business people should be asking their accountants.”

One of the most contentious issues of his research, he says, is that if small-business owners don’t pay themselves a salary, they can’t benefit from the Canada Pension Plan. Salaried employees contribute $2,163 annually, which is matched by their employer; when the employees retire, they get a pension. Small-business owners have to pay both sides — more than $4,300 — to get $934 a month after they retire. So, small-business owners should not worry about contributing to the CPP because they would be better off investing the money inside their company.

“The internal rate of return is less than 0.5%, ignoring inflation and real growth in wages,” Golombek says. “Actuaries are telling me the return might be 3%. My point is: could you not invest $4,300 a year over 40 years inside the company and get a rate of return higher than 3%? Losing CPP and the ability to contribute to CPP by only paying yourself dividends isn’t that big a deal.” IE