In Canada, the dividend tax credit eliminates tax liability for eligible dividends.

Eligible dividends can come from public companies, foreign-owned companies operating in Canada, and many privately owned companies. It allows Canadian citizens to avoid having their dividends double-taxed. Canada offers a dividend tax credit that allows investors to eliminate their taxes on dividends paid from eligible companies.

The equation for applying the credit involves steps that are intended to mimic the gross dividend amount before corporate taxes were originally taken out of it. This step is called “grossing up” the dividend amount, and the individual taxpayer’s taxable income amount is upped along with it. The amount of the gross up depends on the corporate taxes applicable in that year.

The credit, based on the net dividend received by the individual, reduces their taxes dollar-for-dollar, and, even though their income was “grossed up,” the credit is larger than the tax rate that is due on the dividend, effectively canceling out the entire dividend from the individual’s taxes.

The dividends are not eligible for the credit if the company is taxed at a small-business tax rate, which is more favorable than the general business tax rate.