Ontario 2026 Budget: Small Business Tax Rate Reduction and Dividend Tax Impact for Private Corporations

Ontario released its 2026 budget on March 26, 2026. One of the main changes for private businesses is a proposed reduction in Ontario’s small business corporate tax rate from 3.2% to 2.2%, effective July 1, 2026. Corporations with tax years that include periods before and after that date are expected to receive only a portion of the rate reduction for that year.

The lower tax rate may initially appear to be good news for Ontario Canadian-controlled private corporations (“CCPCs”) that qualify for the small business deduction. However, the budget also proposes a lower Ontario dividend tax credit for non-eligible dividends. In practical terms, the corporation may pay less tax when it earns the income, but an Ontario shareholder may pay more personal tax when that income is later paid out as a dividend.

 

What Is Changing?
Ontario proposes to reduce its small business corporate tax rate from 3.2% to 2.2% on July 1, 2026. When the 2.2% Ontario rate is added to the 9% federal small business rate, the total corporate tax rate would fall from 12.2% to 11.2% once the change is fully in effect.

The full rate reduction will not apply immediately to every corporation. If a corporation’s tax year includes days before and after July 1, 2026, the Ontario rate will generally be calculated based on the number of days in each period. For example, a corporation with a December 31 year-end would have an average Ontario small business rate of approximately 2.7% for 2026. The full 2.2% rate would generally apply beginning in 2027.

Corporate Tax Savings for Eligible Small Businesses
A qualifying Ontario corporation will pay less provincial tax on active business income that is eligible for the small business deduction. Once the rate reduction is fully in effect, a corporation earning the full $500,000 of eligible income could save up to $5,000 of corporate tax each year.

The lower tax rate leaves more cash inside the corporation. That cash can be used for day-to-day operations, equipment purchases, debt repayment, hiring, or growth. The benefit is generally greater when the money remains in the corporation instead of being paid immediately to shareholders.

Impact on Non-Eligible Dividends
The lower corporate tax rate also affects the personal tax paid by shareholders. Non-eligible dividends are generally paid from business income that qualified for the small business deduction. Because the corporation will pay less tax on that income, Ontario is expected to reduce the personal dividend tax credit so that the overall corporate and personal tax result remains more closely balanced.

For an Ontario resident in the top tax bracket, the personal tax rate on non-eligible dividends is expected to rise from 47.74% to 48.89% on January 1, 2027. In simple terms, the corporation may save tax when it earns the income, but the shareholder may pay more tax when that income is later paid out as a dividend.

Integration: Why the Net Benefit May Be Limited
Canada’s tax system generally aims to produce a similar total tax cost whether income is earned personally or first earned through a corporation and then paid to the shareholder. This is known as tax integration. The result is not always exact, but the corporate and personal tax rules are designed to work together.

The lower corporate tax rate allows the corporation to keep more cash until the money is paid to a shareholder. However, the higher personal tax rate on non-eligible dividends may reduce some of that benefit when the money is paid out. The final result will depend on how much income the corporation earns, the shareholder’s personal tax rate, how long the money stays in the corporation, and how the shareholder eventually withdraws it.

Increased Deferral Opportunity on Corporate Investment Income
Earning investment income inside a CCPC can provide a small upfront tax deferral. In Ontario, the corporation initially pays tax at 50.17%, compared with 53.53% if the income is earned personally at the top tax rate. The 3.36% difference remains in the corporation and can be invested until the funds are paid to the shareholder.

Of the 50.17% corporate tax, 30.67% may be refunded to the corporation when it pays taxable dividends. This refund helps ensure that part of the tax is temporary. However, the shareholder will generally pay personal tax when the money is eventually withdrawn from the corporation.

There is a trade-off. If all the investment income is eventually paid to a shareholder at the top Ontario tax rate, the combined corporate and personal tax may be approximately 58.86%. This is 5.33% more than the 53.53% tax that would apply if the income were earned personally. The strategy may still be worthwhile because the extra tax is generally paid later. In the meantime, the corporation can invest the 3.36% initially deferred and earn a return on that amount.

The strategy is generally more attractive when the money can remain in the corporation for many years and earn a reasonable return. The investment growth on the deferred tax may eventually offset the additional 5.33% tax cost. It may be less attractive if the money will be withdrawn soon, investment returns are low, or the shareholder will still be in the top tax bracket when the funds are paid out. Other factors, including the reduction of the small business deduction where passive investment income is high, investment risk, corporate compliance costs, and the timing of withdrawals, should also be considered.

Planning Considerations for Ontario Private Corporations
Private corporations and their shareholders should review how the proposed changes may affect when dividends are paid, whether compensation is taken as salary or dividends, and how much cash is kept in the corporation. The following questions should be considered:

• Dividend timing: If the corporation has cash available to pay a non-eligible dividend, compare the personal tax cost of paying it before January 1, 2027 with the cost of paying it after that date.
• Salary versus dividends: Owner-managers should review whether taking compensation as salary, dividends, or a combination of both still provides the best result after the corporate and personal tax changes.
• Keeping cash in the corporation: The lower corporate tax rate leaves more cash available for business or investment purposes. This can be beneficial when the shareholders do not need to withdraw the money immediately.
• Investing surplus cash: If business profits remain in the corporation, the lower corporate tax rate may leave more money available to invest before the shareholder pays personal tax on a withdrawal.
• 2026 year-end planning: Corporations with a tax year that includes periods before and after July 1, 2026 should confirm the blended Ontario small business rate that applies for the year.
• Shareholder cash needs: Shareholders who rely on regular dividends should update their cash flow estimates because the higher personal tax rate may reduce the amount they keep after tax.

Next Steps
Ontario private corporations should review their 2026 and 2027 tax plans before the higher non-eligible dividend rate takes effect. Owner-managers should reconsider when dividends are paid, whether compensation is taken as salary or dividends, and how much cash should remain in the corporation. Corporations with significant income that qualifies for the small business deduction should also compare the corporate and personal tax cost of different withdrawal options.

This article provides general information and is not tax advice. The effect of these changes will depend on the circumstances of each corporation and shareholder. Professional advice should be obtained before any tax planning steps are taken.

If you have any questions or need clarification along the way, please contact us. We’re happy to help.