How does the dividend tax credit work on my Ontario personal tax return?

The dividend tax credit is a mechanism designed to prevent double taxation when a corporation pays dividends out of after-tax profits. Canada and Ontario each provide their own version of the credit. The process on your personal tax return involves two steps: first, grossing up the dividend you received to a notional pre-tax amount, and then applying the dividend tax credit to reduce your tax payable.

For non-eligible dividends (the most common type from a CCPC), a percentage is added to the actual dividend received to produce the grossed-up amount that is included in income. You then receive a federal dividend tax credit and a separate Ontario dividend tax credit that together offset a portion of the tax on that grossed-up amount. The intent is that your combined corporate-plus-personal tax roughly equals what you would have paid had the income been earned directly.

For eligible dividends, the gross-up percentage and the credit are larger, reflecting that a higher corporate tax was already paid. The exact percentages are set by the federal and Ontario governments and can change with budgets. Your accountant or tax software applies the current rates automatically, but understanding the mechanism explains why dividend income at the same dollar amount often results in less personal tax than the same amount of employment income.