Tax Minimization

The adage that nothing is certain but death and taxes is actually not quite correct. Death remains everyone’s destiny, but there are many legal ways to reduce taxes. The following is a list of twenty-one things that may help you to reduce the tax bill. Note that none of these discussions presumes or suggests actions that are not in compliance with Canadian tax law:

  1. Use RRSP space to reduce current taxes. Contributing to an RRSP reduces taxable income when you’re working and at a higher tax rate. When you’re retired and begin making withdrawals, you’re usually at a lower tax rate.
  2. Use a spousal plan to split RRSP income. If your spouse is likely to have a lifetime income appreciably less than you, you can set up a Spousal RRSP. Your spouse will wind up with a significant amount of wealth which, when eventually withdrawn, will be taxed at a lower rate than if no transfer had been done. The spousal RRSP split may enable the family to preserve the full amount of Old Age Security payments that are subject to clawback.
  3. Share CPP benefits. Spouses or common-law partners, who are both at least 60 years old, and who receive CPP retirement pensions can share their pension benefits. This may result in tax savings. If only one of you is a CPP contributor, you share that one pension.
  4. Split income with children through a Registered Education Savings Plan. If a parent contributes to an RESP, there is no tax deduction, but income earned within the RESP grows without tax until withdrawals are made, at which time the income withdrawn is taxed in the hands of the child who is pursuing post-secondary education and presumably is in a lower tax bracket.
  5. Have the higher income spouse pay household expenses. The higher income spouse can also pay the income taxes of the lower income spouse. Since the amount paid on behalf of the lower income spouse is not invested (it goes directly to the government), there is no need to attribute any income back to the paying spouse. The lower income spouse can then invest the amount of tax saved.
  6. Employ spouse or children. A person with a business can employ a spouse or children and pay them wages or salaries appropriate to the work they do.
  7. Loan money to a lower-income spouse to make an investment. This strategy will work provided that the spouse borrowing the money pays interest of at least the rate prescribed by the Canada Revenue Agency or, if it is less, the going commercial rate.
  8. Create a corporation to carry on an active business. Manitoba small businesses have a preferential tax rate. This low rate allows investments held in the company to accumulate at a faster rate than those held personally. It also creates permanent tax savings if dividends are paid to lower income family members.
  9. Blend interest into the sale price of an asset. A taxpayer can avoid taxation on interest charged when property is sold but not paid in full at time of sale or transfer. Interest on a loan is taxed at full marginal rates. But if a sales agreement is structured to include the interest in the price of the thing being sold, then the difference between price and cost will be taxed as a capital gain.
  10. Reinvest interest income in common stock or preferred shares that pay dividends that have lower tax rates and that, if sold at a loss, can produce deductions against other capital gains.
  11. Use life insurance to convert a growing body of money into the property of family members. Because money that is used to pay insurance premiums is already tax-paid, the benefits that emerge after the policyholder’s death are tax-free in the hands of a named beneficiary.
  12. Invest in devices, such as tax-efficient mutual funds or natural resource income trusts, which return some of their earnings to unit or shareholders in the form of return of capital. There are no taxes on capital per se, so the return of capital is regarded as tax-free. Such investments become annuity-like in that they pay a return that includes some of the original contribution. Note that return of capital reduces the adjusted cost base and therefore raises the potential capital gain from sale of the asset prior to exhaustion of the capital. This tax deferral can make future tax minimization strategies more complex.
  13. Make sure children with earned income file a tax return. Even income from a paper route or from bagging groceries at a supermarket can be used to create RRSP space that can be used in later years when, with a substantial income, the child — now an adult — faces high tax rates. In some cases, filing a return showing low income may make it possible to claim certain low-income provincial tax benefits or to obtain a GST low-income credit.
  14. Claim medical expenses proficiently. To be deductible, medical expenses, which can include payments to a wide variety of service providers, must exceed a certain threshold. But expenses are claimable within any 12-month period ending in the tax year for which a claim is made.
  15. Make a vow of perpetual poverty. Members of religious orders who take a vow of perpetual poverty can deduct an amount equal to his or her earned income and an amount equal to the pension benefits in the year if these amounts were paid to the order. Where this claim is made, the claimant cannot also claim a charitable donation tax credit for the year.
  16. Split pension income with your spouse or common-law partner. If you’re receiving income that qualifies for the pension income tax credit and you’re in a higher tax bracket than your spouse or common-law partner, consider allocating to him or her up to half your pension income.
  17. Save receipts for your children’s fitness programs. If you have children under the age of 16 who have been involved in physical activity programs, you may be eligible to claim a tax credit on your tax return.
  18. Realize losses to offset gains. If you have capital gains in a given year and have accrued losses on other investments, consider selling your losing investments before year-end.
  19. Contribute to a Tax-Free Savings Account. If you contribute to a TFSA, you will not obtain a tax deduction for the contributions, but income earned in your TFSA is tax-free and all withdrawals are tax free.
  20. Gift public company shares to a charity. If you’re planning to make a significant donation to a charitable organization, consider giving shares of a public company so you can benefit from the special rules that apply to such donations.
  21. A registered disability savings plan (RDSP) is intended to provide for the long-term financial security of a beneficiary who has a prolonged and severe physical or mental impairment. Contributions are not tax deductible. However, the earnings generated on contributions are tax-exempt while they stay in the plan. When earnings are withdrawn as part of a disability assistance payment, they are taxable in the hands of the beneficiary. In addition, due to savings grants and savings bonds, a contribution of $1,500 into the plan each year can receive as much as $4,500 of federal government contribution.