How are Canadian dividends taxed in Ontario?

Dividends from Canadian corporations receive preferential tax treatment in Canada compared to employment or interest income. The process involves two steps: your dividend is "grossed up" (increased) to a notional pre-tax amount, and then you receive a dividend tax credit (DTC) that partially offsets the extra tax. The result is a lower effective tax rate on dividends than on the same dollar of salary or interest.

There are two categories of Canadian dividends: eligible dividends (paid by larger, publicly traded corporations or CCPCs paying out income taxed at the general corporate rate) and non-eligible dividends (typically paid by CCPCs on income taxed at the small-business rate). Eligible dividends carry a higher gross-up percentage but also a larger DTC, so the net tax burden differs by category. Ontario has its own provincial dividend tax credit rates, which apply in addition to the federal DTC.

Because the gross-up increases your "income" for purposes of income-tested benefits (like OAS clawback or certain tax credits), dividends can have hidden costs if you receive them in retirement or alongside government benefits. A tax professional can model the after-tax impact of dividend versus salary compensation, particularly for incorporated business owners.