Tax planning

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Tax planning is about organizing your affairs to minimize (or reduce) your tax burden. Taxes are one of the biggest expenses to the Canadian investor. The Income Tax Act imposes taxes on the income of every individual resident in Canada. The Income Tax Act is enormously complex but detailed knowledge is not required. The average person will be well served by knowing and taking advantage of some simple and common tax saving opportunities.

If you are a Canadian resident who earns income you are required to file a tax return.[1] Filing a tax return is a one-time annual event. However, throughout the year you should take the time to consider the tax implications of your financial and investment decisions.

Although filing a tax return and getting a refund seems advantageous, in reality it means that you have loaned money to the government interest free for the year. More prudent tax planning arranges things so that when you file your tax return you have a balance owing. Keeping the balance owing under $3000 will help you avoid having to make tax instalment payments.

Do

  • If you are employed, make sure you keep your TD1 - Personal Tax Credits Return[2] current and up-to-date.
  • If you are employed, you can also complete a T1213 - Request to Reduce Tax Deductions at Source[3] to ask for reduced tax deductions at source for any deductions or non-refundable tax credits that are not part of the Form TD1, Personal Tax Credits Return. If your T1213 is approved, the approval is given to your employer. The employer reduces your at source tax deductions by the approved amounts.
  • Be aware of your marginal tax rate so that where possible, you can make effective financial decisions.
  • Avoid taxes: Profits from the sale of a principal residence, and up to $750,000 of capital gains from the sale of an active business you own, are tax free. Starting in 2009, adults can avoid income taxes on investment income in a Tax-Free Savings Account (TFSA).
  • Defer taxes: Contribute to your pension plan or a Registered Retirement Savings Plan (RRSP), and a Registered Education Savings Plan (RESP) if you have children. Investment income and gains are not taxed until withdrawal, which allows investment returns to compound tax-free over long periods of time. Consider the incorporation of small businesses in order to use the deferral opportunities inherent in the special low tax rate available to a Canadian controlled private corporation (CCPC).
  • Split income: Canada's tax system has progressively higher rates as you earn more, so having income taxed in the hands of lower income family members saves money. Consider employing your spouse or children if you have a business. Contribute to a spousal RRSP. Split your Canada Pension Plan entitlements[4] and, since 2008, pension payments[5]. Consider setting up a spousal testamentary trust. Income in a spousal testamentary trust can be taxed on a graduated separate basis from your spouse[6].
  • Generate tax-preferred investment income: dividends from Canadian corporations and capital gains on the sale of investments get preferential tax treatment relative to earned income and interest. Earning $80,000 at a job in 2008 would cost an Ontario resident about $23,000 in income tax, Canada Pension Plan (CPP) and Employment Insurance (EI) premiums. The same income, half in dividends from Canadian public companies and half in capital gains, is liable for about $6,000.
  • Keep the least tax-efficient securities (e.g. bonds and high yielding foreign equities) inside your RRSP/Registered Retirement Income Fund (RRIF)/TFSA and the most tax-efficient outside.
  • File a Foreign Income Verification Statement, Form T1135 if holding over $100K in foreign investments.

Don't

  • Cheat on your income tax returns by falsifying your income or expenses.
  • Buy an investment that is being touted more for its tax benefits than its returns.

Instalments

You are required to pay your income tax by instalments for a tax year if your net tax owing is more than $3,000 ($1800 if you lived in Quebec on December 31) in that tax year, and in either of two previous years.[7] An instalment reminder is issued to help you determine if you have to pay income tax by instalments. Two reminders are sent out. The first one is sent in February and is for the March and June payments. The second one is sent in August and is for the September and December payments. The reminder will suggest an amount to pay and list the payment options.

You can also see your instalment reminders and payment history online using the CRA's My Account.

Canada Revenue Agency (CRA) also publishes a pamphlet, Pamphlet P110, Paying Your Income Tax by Instalments, that provides comprehensive information about tax instalments.

Calculating payments

If you are required to pay tax instalments, you have three options to calculate the amount of the payments.[8] They are covered in the following sections.

No-calculation option

CRA's suggestion is the no-calculation option[9] is best for you if your income, deductions, and credits stay about the same from year to year.

With this option you use CRA's instalment notice payment amounts, which generally results in four instalments due. The first two will equal one-quarter of your balance due in 2012. The second two are calculated so that your total instalments equal your 2013 balance due.[10]

Prior-year option

CRA's suggestion is the prior-year option[11] is best for you if your 2014 income, deductions, and credits will be similar to the 2013 amounts but significantly different from those in 2012.

With this option each instalment is one-quarter of your 2013 balance due.[10]

Current-year option

CRA's suggestion is the current-year option[12] is best for you if your 2014 income, deductions, and credits will be significantly different from those in 2013 and 2012.

With this option, you calculate each instalment as one-quarter of your anticipated balance due. If you expect that your tax owing will be lower in the current year this can result in a lower instalment requirement. Should you underestimate your balance due and pay insufficient instalments you are subject to non-deductible interest charges.[10]

Instalment due dates

There are four instalment due dates:

  • March 15th
  • June 15th
  • September 15th
  • December 15th

When a due date falls on a Saturday, a Sunday, or a holiday recognized by the CRA, your payment is considered to be paid on time if they receive it or if it is postmarked on the next business day.

Other key dates to remember

Personal tax returns

Generally your tax return must be filed on or before April 30th of the following year.[13] The notable exceptions are self-employed persons and deceased persons.

Securities trading

  • Dec 24th, 2013 - final trade date for Canadian equities for settlement in 2013 tax year.
  • Dec 26th, 2013 - final trade date for US equities for settlement in 2013 tax year.
  • Dec 28th, 2013 - final trade date for Options for settlement in 2013 tax year.

Other CRA important dates

There are many other important dates that can be found on CRA - Important dates (Individuals) and CRA - Important dates (Business).

Resources

If you want to estimate income taxes payable, there are a few online tax estimators available.

The Chartered Accountants of Canada (CICA) has an annual publication, 'The Personal Tax Planning Guide 20xx-yy'. Each year, the CICA prints this helpful client guide so that firms can distribute copies to their clients in the early fall in preparation for the next tax season. Many accounting firms make this guide available not only to their clients, but include links to an electronic copy of their website. Similar guides are also available from provincial Certified General Accountant associations, such as Certified General Accountants of Ontario - Information Booklets and Brochures.

See also

References

  1. Canada Revenue Agency, All about your tax return, viewed December 10, 2013.
  2. Canada Revenue Agency, TD1 - Personal Tax Credits Return, viewed December 10, 2013.
  3. Canada Revenue Agency, T1213 - Request to Reduce Tax Deductions at Source, viewed December 10, 2013.
  4. Service Canada, "Credit Splitting", Viewed July 3, 2009
  5. Service Canada, Sharing your retirement pension, Viewed July 3, 2009
  6. GlobeAdvisor.com, Pitfalls of JTWROS Accounts--Scenario B
  7. Canada Revenue Agency, Who has to pay tax by instalments?, viewed December 10, 2013.
  8. Canada Revenue Agency, What are your instalment payment options?, viewed December 10, 2013.
  9. Canada Revenue Agency, No-calculation option, viewed December 10, 2013
  10. 10.0 10.1 10.2 EY, Managing Your Personal Taxes 2013-14: A Canadian Perspective, page 93, viewed December 11, 2013.
  11. Canada Revenue Agency, Prior-year option, viewed December 10, 2013.
  12. Canada Revenue Agency, Current-year option, viewed December 10, 2013.
  13. Canada Revenue Agency, Tax return filing due dates, viewed December 10, 2013.

External links

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