Canadian dividends are taxed using a gross-up and tax credit mechanism designed to integrate corporate and personal tax. Eligible dividends (paid from corporate income taxed at the general rate) are grossed up by 38% and qualify for a 15.0198% federal dividend tax credit. Non-eligible dividends (paid from corporate income taxed at the small business rate) are grossed up by 15% and qualify for a 9.0301% federal credit. The mechanism approximates the tax that would have been paid had the income been earned directly by the shareholder.
How dividends are taxed
The tax calculation has three steps:
- Gross up the dividend. Multiply the actual cash dividend received by the gross-up factor.
- Add to taxable income. The grossed-up amount is added to the recipient’s taxable income and taxed at the marginal rate.
- Subtract the dividend tax credit. The federal credit is calculated on the grossed-up amount. Provincial credits also apply (rates vary by province).
Eligible vs non-eligible dividends
| Item | Eligible dividend | Non-eligible dividend |
|---|---|---|
| Source | Public company income or CCPC income from “general rate income pool” (GRIP) | CCPC income taxed at small business rate |
| Federal gross-up factor | 38% | 15% |
| Federal dividend tax credit | 15.0198% of grossed-up amount | 9.0301% of grossed-up amount |
| Effective federal tax rate at top bracket | ~25.1% on dividend received | ~31.0% on dividend received |
Worked example: $1,000 eligible dividend
A taxpayer in the 26% federal bracket receives $1,000 of eligible dividends from a Canadian public company:
- Gross-up: $1,000 × 1.38 = $1,380 added to taxable income
- Federal tax at 26% marginal: $1,380 × 26% = $358.80
- Less federal dividend tax credit: $1,380 × 15.0198% = $207.27
- Net federal tax: $358.80 – $207.27 = $151.53
- Effective federal rate on the $1,000 dividend: 15.15%
Provincial dividend tax credit and provincial marginal rate would be applied similarly. Combined federal + provincial effective rate on eligible dividends is typically 0% to 35% depending on bracket and province.
Why the gross-up exists
The gross-up mechanism implements “tax integration”: the goal is that an investor pays approximately the same total tax (corporate + personal) on Canadian-corporation income whether it is paid as a dividend or earned directly. The gross-up reverses the corporate-level tax that has already been paid; the dividend tax credit refunds the personal-level tax that would otherwise be double-counted.
Tax integration is rarely perfect. Canadian dividends often face slightly less or slightly more total tax than directly earned income, depending on province, bracket, and corporate tax rate. The deviation is typically 1-3% of the dividend amount.
Foreign dividends are taxed differently
Dividends from foreign (non-Canadian) corporations are NOT eligible for the gross-up and dividend tax credit. They are taxed as ordinary income at the recipient’s full marginal rate. US dividends often have 15% US withholding tax that can be credited against Canadian tax via the foreign tax credit.
Holding US-dividend-paying stocks in an RRSP avoids the US withholding (treaty exemption); holding them in a TFSA does not (TFSA is not recognized by the Canada-US tax treaty for withholding purposes).
How to identify eligible vs non-eligible
The corporation paying the dividend designates whether it is eligible or non-eligible. The T5 slip received by the shareholder shows:
- Box 24: Actual amount of eligible dividends
- Box 25: Taxable amount of eligible dividends (grossed-up)
- Box 26: Federal dividend tax credit on eligible dividends
- Box 10: Actual amount of non-eligible (other than eligible)
- Box 11: Taxable amount of non-eligible dividends
- Box 12: Federal dividend tax credit on non-eligible
Provincial dividend tax credits
Each province has its own dividend tax credit rates applied at the provincial level. Provincial credit rates for eligible dividends range from approximately 5.4% (Newfoundland) to 11.84% (BC) of the grossed-up amount. Combined federal + provincial dividend tax credits dramatically reduce the marginal rate on Canadian dividends compared to ordinary income.
Why eligible dividends are tax-favoured
For most taxpayers, eligible Canadian dividends are taxed at a lower effective rate than the same amount of interest or ordinary employment income. A taxpayer in the lowest federal bracket may even have a NEGATIVE effective tax rate on eligible dividends (the credits exceed the tax owed), though this is offset against tax on other income.
Frequently asked questions
- What is the dividend gross-up?
- Eligible dividends are grossed up by 38% (multiplied by 1.38). Non-eligible dividends are grossed up by 15%. The grossed-up amount is added to taxable income.
- What is the federal dividend tax credit rate?
- 15.0198% of the grossed-up amount for eligible dividends. 9.0301% for non-eligible dividends. Provincial credits apply on top.
- Why are dividends grossed up?
- To approximate the corporate income before tax that produced the dividend. The gross-up plus tax credit mechanism implements tax integration: the goal is roughly equal total tax whether income is paid as dividend or earned directly.
- Are foreign dividends eligible for the credit?
- No. Dividends from non-Canadian corporations are not eligible for the gross-up and dividend tax credit. They are taxed as ordinary income.
- How do I tell if a dividend is eligible?
- The corporation designates the type. T5 slips report eligible amounts in box 24 and non-eligible amounts in box 10, with separate boxes for the grossed-up amount and tax credit.
- Why are eligible dividends tax-favoured?
- The combined federal + provincial dividend tax credit substantially reduces the effective tax rate on Canadian dividends. Many taxpayers face lower effective rates on eligible dividends than on the same amount of interest or wage income.
- Can the dividend tax credit produce a refund?
- Yes for low-income taxpayers, the credit can exceed the tax on the dividend itself. The excess credit reduces tax on other income on the same return.