If you run an incorporated business in the Greater Toronto Area, you’ve probably thought about paying dividends to your spouse, your adult children, or another family member. It’s one of the most talked-about tax planning strategies in Canada, and for good reason. Splitting income through dividends can lower your family’s overall tax bill by shifting some of that income to someone in a lower tax bracket. But before you issue a single dividend cheque, you need to understand the Tax on Split Income (TOSI) rules. Getting this wrong doesn’t just cost you the tax savings. It can result in CRA penalties, back taxes, and interest charges that far outweigh any benefit. This guide breaks down exactly how TOSI works, what exceptions apply, and how GTA business owners can stay on the right side of the CRA.
What Is TOSI (Tax on Split Income) and How Does It Affect Your Business?
TOSI stands for Tax on Split Income. It is a set of rules under section 120.4 of Canada’s Income Tax Act that targets income-splitting strategies involving private corporations. The rules are designed to stop business owners from diverting income to family members who have not meaningfully contributed to the business.
Before 2018, TOSI only applied to minors under 18. Business owners could freely pay dividends to adult family members in lower tax brackets and enjoy significant tax savings. That changed on January 1, 2018, when the federal government expanded the TOSI rules to include adult family members. Today, dividends paid to a spouse, adult child, parent, or sibling from a private corporation can be taxed at the highest marginal tax rate if certain conditions are not met.
Long-term clients of Simplified Accounting describe the experience as having a tax professional who explains even the most complex situations, like TOSI, in plain language, so they always know exactly where they stand.
What Does TOSI Mean for Dividends Paid to Family Members?
When TOSI applies, the dividends your family member receives are taxed at the top combined federal and provincial marginal rate. In Ontario, that rate is 53.53%. That means even if your spouse or child earns very little other income, the dividends they receive from your corporation would be taxed as though they were in the highest income bracket. This completely eliminates the benefit of income splitting.
It’s important to note that TOSI applies specifically to dividends and certain capital gains from private corporations. Salaries and wages are not subject to TOSI. However, salaries paid to family members must still pass the CRA’s reasonableness test, meaning the amount you pay must reflect the actual value of work performed.
Who Counts as a “Specified Individual” Under TOSI?
A “specified individual” is any Canadian resident who receives split income from a related business. This includes your spouse or common-law partner, your children (of any age), your parents, and your siblings. If any of these family members hold shares in your corporation and receive dividends, the TOSI rules may apply unless they qualify for one of the specific exclusions outlined by the CRA.
A “related business” is any business in which a source individual (typically the primary business owner) is actively engaged. For most incorporated small businesses in the GTA, this means your corporation is almost certainly a related business, and any dividends paid to family shareholders will be evaluated under the TOSI framework.
When Can You Pay Dividends to Family Members Without Triggering TOSI?
The good news is that TOSI does not apply in every situation. There are several important exceptions that allow you to pay dividends to family members and have those dividends taxed at their personal marginal rate, not the punitive top rate. Understanding these exceptions is essential for any business owner considering corporate accounting and tax services that involve income splitting.
The Excluded Business Exception (20-Hour Rule)
This is the most common and often the most practical exception. TOSI does not apply to dividends received by a family member who is actively engaged in the business on a regular, continuous, and substantial basis. The CRA has established a benchmark: working at least 20 hours per week on average during the period the business operates in the current year, or in any five previous taxation years (which do not need to be consecutive).
For example, if your spouse handles bookkeeping, client communications, or administrative work for your business at least 20 hours per week, they would likely qualify under the excluded business exception. Dividends paid to them would not be subject to TOSI.
This exception applies to any family member aged 18 or older. For adult children who worked summers in the business during university, those years can count toward the five-year threshold. Once the threshold is met, dividends can be paid without TOSI applying, even if the family member is no longer actively working in the business.
Keep in mind that dividends are issued to a class of shares, not to individual shareholders. If both you and your spouse own the same class of shares, you cannot issue dividends to one without issuing them to the other. Setting up separate share classes for each family member gives you more flexibility when planning dividend payments.
The Excluded Shares Exception (Age 25+, 10% Ownership)
This exception is available to family members aged 25 or older who directly own at least 10% of the votes and value of the corporation. However, it comes with additional conditions. The corporation cannot be a professional corporation (such as those operated by doctors, lawyers, or accountants), and less than 90% of the corporation’s gross business income in the previous tax year must have come from providing services.
This means the excluded shares exception works best for businesses that sell goods or products alongside services. A construction company that sells materials, a cleaning business that also retails supplies, or a retailer with a service component may qualify. However, a pure consulting firm, IT services company, or professional practice would likely not.
The CRA evaluates the 90% gross business income test based on the corporation’s previous tax year. This means the result can change from year to year depending on how your revenue mix shifts between goods and services.
The Reasonable Return Exception
For family members aged 25 or older who do not qualify under the excluded business or excluded shares exceptions, there is still the reasonable return exception. This allows dividends to be paid without triggering TOSI if the amount represents a reasonable return based on the family member’s overall contribution to the business.
The CRA considers several factors when evaluating whether a return is “reasonable.” These include the work the individual performs for the business, the property or capital they contributed, the risks they assumed, and any amounts previously paid to them. This is a subjective test, which makes it harder to rely on compared to the excluded business or excluded shares exceptions.
For family members between 18 and 24, the reasonable return exception is more limited. It is restricted to a return on arm’s-length capital contributions, calculated at the CRA’s prescribed interest rate.
What Happens If TOSI Applies to Your Dividends?
If none of the exceptions above apply, TOSI will kick in. The consequences can be severe, especially for business owners in Ontario who are already dealing with one of the country’s highest combined tax rates.
How TOSI Is Taxed in Ontario
When TOSI applies, the dividends received by your family member are taxed at the highest combined federal and Ontario marginal rate of 53.53%. This rate applies regardless of the family member’s actual income level. A spouse with no other income who receives $50,000 in dividends from your corporation would face roughly $27,000 in tax under TOSI, compared to approximately $10,000 if the dividends were taxed at their actual marginal rate.
TOSI is reported on Form T1206 and added to the individual’s Part I tax. The family member cannot use most personal tax credits (other than the dividend tax credit, disability tax credit, and foreign tax credit) to reduce the TOSI amount.
Common Scenarios That Trigger TOSI
Several situations commonly trigger TOSI for GTA business owners. Paying dividends to a spouse who holds shares but does not work in the business is one of the most frequent. Issuing shares to adult children who have no meaningful involvement in the company is another. Splitting partnership income among family members who have not contributed labour, capital, or taken on business risk will also attract CRA scrutiny.
A spouse who holds a title on paper but does not perform real work will not pass the CRA’s review. The agency looks for documented hours, clear job descriptions, and compensation that reflects market rates.
How Can GTA Business Owners Stay Compliant and Avoid TOSI Penalties?
Staying compliant with TOSI requires a combination of proper documentation, smart corporate structuring, and professional guidance. For business owners across Toronto, Mississauga, Brampton, Markham, Vaughan, and the surrounding GTA, this is one of the most important areas of tax planning to get right.
Documentation the CRA Expects to See
If the CRA audits your dividend payments, they will want to see evidence that the family member receiving dividends meets one of the TOSI exceptions. The most important records include timesheets or work logs showing hours worked (with project or task details, not just totals), employment contracts with clear job descriptions, payroll records including T4 slips, and any documentation of capital contributions such as bank statements or loan agreements.
For the excluded business exception, the CRA has stated that records like timesheets, schedules, or logbooks are sufficient to establish the number of hours an individual worked. If the family member also receives a salary, payroll records can support the claim. The key is to start tracking now, even if your family member has been working in the business informally for years.
If you’re ever facing questions from the CRA about your dividend structure, having CRA audit and review support from an experienced accountant can make a significant difference in the outcome.
Paying Salaries vs. Dividends to Family Members
One of the simplest ways to share income with family members without triggering TOSI is to pay them a reasonable salary instead of dividends. Salaries are not subject to TOSI. As long as the amount is reasonable for the work performed, the business can deduct the salary as an expense, and the family member reports it as employment income at their personal tax rate.
The trade-off is that salaries are subject to CPP contributions and require payroll administration. Dividends, on the other hand, do not attract CPP and are paid from after-tax corporate income. This is why many business owners prefer dividends when possible.
A good approach for many GTA families is to combine both strategies. Pay a reasonable salary for actual work performed, and then consider dividends only where a clear TOSI exception applies. This layered approach can maximize small business tax deductions in Canada while keeping you compliant.
Clients who work with Simplified Accounting on both personal and corporate taxes consistently note the proactive advice they receive, particularly around finding ways to reduce their tax bill before filing season arrives.
Do You Need Professional Help Navigating TOSI and Income Splitting?
Paying dividends to family members in Canada can still be a powerful tax planning tool, but only when it’s done correctly. The TOSI rules have raised the bar significantly since 2018, and the CRA continues to enforce them aggressively. Whether you qualify through the excluded business exception, the excluded shares exception, or the reasonable return test, the key is documentation, structure, and professional guidance.
For incorporated business owners in Toronto and across the Greater Toronto Area, the stakes are too high to guess. A single misstep can result in dividends being taxed at 53.53% instead of your family member’s actual rate, plus penalties and interest on top.If you’re considering paying dividends to family members, or if you’ve already been doing so and want to make sure your structure holds up to CRA scrutiny, a small business tax accountant in Toronto can help you build a compliant income-splitting strategy. Contact Simplified Accounting & Tax today for a free consultation and take the first step toward confident, tax-smart planning for your family business.