Introduction

Two types of income flow through a Canadian private corporation — active business income and passive investment income — and the tax treatment of each could not be more different. Active income at the small business deduction rate is taxed at approximately 12.2% (Ontario, 2026). Passive income inside the same corporation is taxed at approximately 50.17%. Understanding why the rates differ, and managing the mix, is one of the most consequential ongoing decisions for incorporated professionals.

What Is Active Business Income

Active business income is income earned from carrying on an active business — professional fees, project revenues, product sales, consulting income. It is the primary income of a medical practice, a law firm, a construction company, or a technology company.

The SBD applies to the first $500,000 of active business income of a CCPC — reducing the combined federal-provincial corporate rate to approximately 12.2% in Ontario. Income above $500,000 is taxed at the general corporate rate of approximately 26.5%.

What Is Passive Investment Income

Passive investment income is earned from investing the corporation's retained earnings — interest on GICs and bonds, dividends from portfolio investments in public companies, rental income from investment properties, and capital gains on the sale of investments.

The combined tax rate on passive income inside a CCPC in Ontario is approximately 50.17%. This high rate exists because the passive income tax system includes a refundable component — the Refundable Dividend Tax on Hand (RDTOH) — which is intended to be refunded to the corporation when dividends are paid to shareholders. The net tax after the RDTOH refund approximates the personal marginal rate — maintaining integration. But the initial gross rate is punishing.

Why the Two Rates Are So Far Apart

The high passive income rate is deliberate policy. The government's concern is that incorporated professionals — who pay a low corporate rate on active income — should not be able to compound investment returns inside the corporation at a preferential rate indefinitely, creating a significant advantage over unincorporated Canadians investing personally.

The 50.17% rate, combined with the RDTOH refund mechanism, is designed to produce approximately the same total tax (corporate + personal) on investment income as would apply if the income were earned and invested personally. Integration, in theory.

In practice, the integration is imperfect — the deferral benefit and the RDTOH tracking complexity create planning opportunities that are real, if manageable only with professional guidance.

The SBD Interaction

As discussed throughout this content library, passive income above $50,000 per year begins to reduce the SBD on active income. The mechanism: for every dollar of AAII above $50,000, $5 of the $500,000 SBD limit is reduced. At $150,000 of AAII, the SBD is eliminated entirely.

This creates a compounding problem: a large investment portfolio generates passive income that erodes the SBD on active income, increasing the corporate tax on both streams simultaneously.

Managing the Mix

The tools for managing active vs. passive income inside a corporation:

Holdco separation: Move excess investment assets to a holding company through inter-corporate dividends, keeping the operating corporation's investment portfolio — and its annual passive income — below the $50,000 AAII threshold.

RRSP/TFSA priority: Personal registered accounts (RRSP and TFSA) generate no corporate passive income. Directing investment capital to personal registered accounts — funded through salary from the corporation — keeps passive income out of the corporate environment entirely.

Investment selection inside the corporation: Not all investments generate the same type of passive income. Growth-oriented investments that produce capital gains (taxed at a 50% inclusion rate) are more efficient inside a corporation than interest-generating investments (taxed at the full rate). Equity ETFs that distribute returns primarily through capital appreciation generate less current passive income than bond funds or GICs.

When to Speak With a CPA

The active vs. passive income mix should be reviewed annually — as the investment portfolio grows, as income levels change, and as the corporation approaches the AAII threshold. This is not a one-time setup decision; it is a recurring planning conversation.

Rotaru CPA reviews active and passive income positions for all corporate clients as part of annual tax planning. Book a consultation to assess your corporation's income mix.