Canadians are among the most heavily taxed people in the world. In 2017, the Fraser Institute reported that the average Canadian family pays a whopping 42.5% of their income in taxes. When it comes to paying income taxes, it’s practically impossible to not pay anything at all.
Fortunately, we each have the right and the privilege to take advantage of tax-saving opportunities through tax planning. The problem is, it’s difficult to know where to start without professional advice.
At Bick Advisors, we understand. This post will guide you through what you need to know to effectively plan for tax savings — ensuring you’re getting your dues and maximizing your assets.
What is tax planning?
The simple definition of tax planning is to reduce and minimize the annual taxes paid to the Canada Revenue Agency (CRA) for individuals or businesses. Tax rates are calculated based on income.
What is a marginal tax rate?
Canada’s tax system is progressive, meaning that as you earn more money, the greater your marginal tax rate is. The higher tax rate is only applied to income within a certain bracket — which is what we call “the margin.” This means that your marginal tax rate is the tax rate paid on the next dollar of income earned.
Currently, marginal tax rates range from 20.05% (for less than $44,740 earned) with no tax paid for less than $10,780, to 53.53% for income over $220,000. Remember, these rates include both federal and provincial taxes on income.
How does my income affect my taxation rate?
Depending on where your income comes from, it’s taxed at different rates.
- Straight income earned as a salary and foreign income are taxed at the highest rate of all income sources.
- Investment income generally consists of interest, dividend, capital gains, and return of capital. Each of these is taxed differently.
- Interest income is taxed at the same rate as straight income and foreign income.
- Dividend income (depends on the type of dividend — whether from a public or small business company) is the next highest.
- Capital gain income tends to be taxed at 50% less.
- Return of capital income is untaxed as it is a return of your original dollars.
Knowing where your income is coming from, and at what rate it’s going to be taxed at, is an important step towards effective tax planning.
How did the 2018 federal budget changed tax planning?
Prior to the 2018 federal budget, high-earning individuals could take two strategies to reduce their overall tax burden.
- Income splitting — Prior to 2018, income splitting allowed families to allocate more of their earned income to a lower tax bracket. This allocation was done by sharing the total earned income between the spouses when filing taxes.
- Reinvesting undistributed earnings from an active business into a private corporation.
Today, new legislation challenges high-earning Canadians by either eliminating or significantly reducing the benefits of these two tax planning strategies. You might be wondering what this means for your bottom line. Some of the most successful tax planning strategies we use today are looked at below.
How can I reduce my taxation with tax planning?
Tax planning aims to reduce your marginal tax from a higher bracket to a lower bracket. Note that there are 11 marginal tax brackets for Ontario residents when combining federal and provincial tax brackets and tax rates. You can see the brackets and roughly calculate your taxation rate here.
At Bick Advisors, three of the main income tax reduction strategies we take are:
1. Making use of RRSP or spousal RRSP contributions
A spousal RRSP is an account that allows both you and your spouse to have the same income when retired to keep taxes low. In a given tax year, the higher-income spouse can use their unused contribution room to deposit money into their lower-income spouse’s RRSP.
The contributing spouse is able to deduct this amount from their taxable income, while the receiving spouse pays income tax on the contributions after withdrawing funds post-retirement.
Since both you and your spouse would have RRSP savings to draw from, you both end up withdrawing less money from your RRSP when you retire. This lower withdrawal, in turn, reduces the total percentage of tax paid.
2. Investing in minerals, oil or gas through “flow-through shares”
This is a riskier strategy to save on income tax, but it can pay off. Otherwise known as “flow-through shares” or FTSs, these are shares in certain corporations in the mining, oil and gas, and renewable energy sectors that you can purchase.
These shares are used to finance exploration and project development activities. Since many newer, smaller resource corporations have difficulty raising capital at first, FTSs allow them to finance these new activities while transferring the expenses to the investor.
While the resource corporation wins through financing, the taxpayer wins through deductions and investment tax credits on resource expenses.
3. Deducting legitimate business expenses
Of course, if you own a business, legitimate business expenses can be deducted. These expenses can include a wide variety of your operations, with certain expenses allowing for a higher percentage of deduction.
The list of expenses can be viewed here on the Canada Revenue Agency website.
At Bick Advisors, we know that it can be difficult to know where to start when tax planning. Our team is equipped with the knowledge and strategies to guide you to a tax plan focused on making sure you get all your dues and maximize your assets. If you’d like to create more wealth while also reducing risk, set up a meeting with one of our advisors today.