How Should Business Owners Be Paying Down Debts?

Remember how there was a time when “cigarettes were healthy” and it was good for you to smoke? Well, the same can be said about what we were told about paying down debts. We know now that smoking cigarettes aren’t actually good for you. And paying down your mortgage as fast as possible might not be either.

The truth about paying down debts as a business owner

We are all brought up with the idea that debts are bad but necessary. The truth is, not all debt is created equally. Some debts are looked on more favourably than others.

A good rule of thumb is considering the return you get from that debt.

For example, investing in your business? This has the potential to pay off. Whereas borrowing money to pay for a vacation? Not as likely to offer you a financial return.

Of course, we need debts to pay for our education, buy our first car, and purchase our first homes, and so on. But paying interest is allowing banks to win money off of YOU when you take out that loan. And this is absolutely true…when you look at the loans individually.

(While you’re here, you might also want to read about 5 Ways To Use Your Corporation To Invest And Save Taxes)

Consider how you’re paying down your mortgage

What do we mean by this?

Generally speaking, one of the biggest debts you’ll carry is your mortgage. Oftentimes, during our debt review with our clients, they want to be “debt-free.” They work hard at putting down extra payments on their mortgage whenever possible. And yes–you will be saving interest when you do this.

However, we forget that because we are business owners, we ALSO have the ability to control our income.

So ask yourself: Where are you getting the money to pay down this extra money on your mortgage? Is it from your business?

Then you’re probably pulling money OUT of your corporation and costing yourself potentially 40-50% MORE to pay for the income taxes to pay for this debt.

With income rates being so high and your interest rate on your mortgage being so low, ultimately you don’t want to pay that extra income for paying down debts faster.

Otherwise, you’re essentially gifting 40-50% of it away to CRA.

How to pay down your debts

Now we know what your next question is: how do I pay down my debts then? Consider something called the Capital Dividend Account. It’s a notional account that allows you to pull money out of your corporation tax-free.

Simply put, if you can take money out of your corporation without paying tax on it, then do it! Pay down your mortgage. Otherwise, think about the 40-50% gift you are giving to the CRA whenever you pay your extra mortgage down.

(Want to learn more about taking advantage of your corporate structure? Take a look at this post next)

Consider the tax implications as a business owner whenever you do this, and look for other means within your corporation to find tax-free dollars for paying down your debts.

Grow your assets inside your corporation instead, and remember: it is the net assets that matter. Factor all of your assets against all of your liabilities when you’re thinking about your overall wealth.

If you’re ready to talk more about strategies for increasing your overall wealth and brightening your financial future, we should talk.

Book a call, we’d love to help you reach your financial goals.

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