Does most of your tax planning take place during the last few months of the year? If so, you are not alone. However, to effectively reduce your current and future tax liabilities, tax planning should be a year round endeavor. Here are some opportunities.
Split your income
Income splitting involves structuring your affairs to move income into the hands of a lower-income family member who will pay less tax.
- A spousal RRSP allows a higher-income spouse to contribute to the RRSP of a lower-income spouse. At retirement, this can help shift more income to the spouse who is expected to be in a lower tax bracket.
- A spousal loan is another strategy for income splitting. As long as a prescribed rate of interest is paid, a spousal loan can be an effective way to transfer assets from a spouse in a higher tax bracket to a spouse in a lower tax bracket.
- The pension income splitting measure introduced by the federal government in October 2006 allows the higher income earning spouse to allocate up to 50% of their pension income to their lower income earning spouse where it would be taxed at their lower marginal rate. Income eligible for income splitting is as follows:
- For people age 65 and older, eligible pension income includes lifetime annuity payments under a registered pension plan (RPP), a registered retirement savings plan (RRSP) or a deferred profit sharing plan (DPSP), and payments from a registered retirement income fund (RRIF).
- For individuals younger than 65, eligible pension income includes only lifetime annuity payments from an RPP (employer-sponsored pension) and certain other payments received upon the death of a spouse or common –law partner.
If you are considering a charitable donation, consider donating publicly-traded securities such as stocks, trust units, exchange-traded funds, warrants etc., as well as mutual fund units and bonds to a public charity (charitable organization and public foundations). In doing so, capital gains tax are eliminated on this gift. This donation must be an “in kind” transfer of the security itself, not the cash proceeds of a sale of the security. The transfer is best made electronically from the donor’s investment account to the charity’s custody or brokerage account.
Create deductible debt
Tax deductible loan interest can be a great tax-saver. One strategy is to convert all or part of your mortgage debt into an investment or business loan. For example, you could sell some investments to pay off your mortgage, then take a loan to repurchase the investments. This will effectively replace your non-deductible mortgage debt with a deductible investment loan.
Maximize your RRSP
Your RRSP is one of the few good tax shelters left. But don’t wait for the deadline to make your contribution. The sooner you invest, the longer your savings will be able to grow on a tax deferred basis. A monthly RRSP contribution plan can make this easy. And, if you have significant unused RRSP contribution room, a short-term loan is often a great way to catch up.
Consider an RESP
Today, a four-year university education in Canada costs $32,000 or more. In 18 years, using a 5% annual inflation factor, that number could rise to $77,000. Although contributions to a Registered Education Savings Plan (RESP) are not tax deductible, the income earned in the plan grows tax-free until it is withdrawn by the student. Plus, you could receive up to $400 a year in government grants to help your savings along. Consider this option if you have children with ambitions for higher education.
Using a Tax Free Savings Account
Starting in 2012, any individual (other than a trust) who is resident in Canada and 18 years of age or older will be able to accumulate annual contribution room of $5,500 each year. Certain provinces legislate that an individual may have to be 19 in order to be eligible to establish a TFSA and save within a TFSA account.
- Contributions will not be deductible.
- Capital gains and other investment income earned in a TFSA will not be taxed.
- Withdrawals will be tax-free.
- Neither income earned within a TFSA nor withdrawals from it will affect eligibility for federal income-tested benefits and credits.
- Withdrawals will create contribution room for future savings.
- Contributions to a spouse’s or common-law partner’s TFSA will be allowed, and TFSA assets will be transferable to the TFSA of a spouse or common-law partner upon death.
- Qualified investments include all arm’s-length Registered Retirement Savings Plan (RRSP) qualified investments.
- The $5,000 annual contribution limit will be indexed to inflation
- The TFSA will provide a flexible savings vehicle for Canadians.
- Since not everyone is able to save each year, individuals who are unable to contribute $5,000 in a year will be able to carry forward unused contribution room to future years.
- The TFSA complements existing savings plans such as registered pension plans, RRSPs, Registered Education Savings Plans (RESPs) and Registered Disability Savings Plan.
Make the right decisions all year around
Tax planning means that you are entitled to arrange your affairs, within the limits of law, so that you pay a minimum amount of tax.