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Taxes in 2018: plan now, reap the rewards in a year

Taxes in 2018: plan now, reap the rewards in a year

Tax season is around the corner, bringing a reminder of how important it is to manage our affairs with tax reduction in mind. Here are a few practical pointers.

At the end of last year, you may have done certain things to reduce the tax bill coming your way this spring. However, a number of tax strategies require planning over the longer term. Here is an overview of the most commonly used ones.

First principle: not all income is equal

To begin with, keep in mind that not all forms of income are taxed in the same way in Canada. As shown in this table, your capital gains are taxed much more favourably than your salary or interest income.

How income is taxed

Planned use of tax-sheltered plans

Due to these differences in tax treatment, RRSPs and TFSAs can be more than just a way to “shelter your income from taxes”: they make a wide range of approaches available. One common strategy is to use an RRSP or TFSA to hold interest-bearing investments and keep those that generate capital gains in unregistered accounts. But some investors would rather concentrate their high-potential equity funds* in a TFSA. That way, if the potential is realized, the substantial gains will be fully tax exempt. Feel free to discuss these strategies with your mutual fund representative or financial security advisor.

Use of life insurance

Even with changes to the Income Tax Act in 2017, universal or whole life insurance can still be of interest for growing investments in a partially tax-sheltered environment. This can allow you to reconcile your need for coverage, a succession plan (notably in the case of a business) and a tax-efficient wealth-building strategy.

Income splitting

Income splitting consists of attributing some of the income earned by the spouse who earns more to the spouse who earns less, in order to benefit from a lower tax rate. For example, two spouses who each earn $75,000 in the eyes of the taxman pay less total tax than if one spouse were to declare $150,000 and the other nothing. This type of splitting can be done in several ways, including the following:

  • if you run a business, you can pay your spouse and even certain qualifying family members; be aware, however, that the tax reform announced in 2017 has tightened the eligibility criteria;
  • you can contribute to a spousal RRSP in order to equalize the income that you will draw from your RRSPs or RRIFs in retirement;
  • if you are already retired, the law allows you to split your eligible pension income with your spouse.

Strategies for entrepreneurs

In addition to income splitting, there are various other tax provisions available to people who own a business. It should be noted here, too, that as of this year the tax reform announced in 2017 will significantly affect the relevance of some of these provisions. Nonetheless, you might want to learn about the advantages of creating a family trust, which could be interesting in terms of both tax optimization and estate planning.

Another option is the Individual Pension Plan (IPP). This sometimes-misunderstood tool is a defined benefit pension plan available to entrepreneurs who own at least 10% of the shares in their business. Eligible contributions are higher than for an RRSP, and the employer contributions are tax deductible.

Planned giving

A planned giving strategy could be a way of combining your personal values and significant tax benefits. In addition to the associated tax credits, when an in-kind donation of certain securities is made, the capital gain on the disposal of the securities is fully tax exempt.

Withdrawal strategies

Finally, it could be a good idea to plan today’s investments with a view to the withdrawals you’ll be making during retirement. When you turn 71, you will have to convert your RRSP into an RRIF or annuity and start withdrawing minimum – and fully taxable – amounts each year. This could have two undesirable effects: it could force you to draw your income from a source that is not tax efficient and/or push you across the “clawback threshold,” requiring you to pay back your Old Age Security benefits. So it could be useful to plan your investments in a way that will give you more flexibility when you reach that age.

To discuss these approaches and other strategies appropriate for your specific situation, talk to your mutual fund representative or financial security advisor.

* Mutual funds are offered through mutual fund representatives associated with SFL Investments Financial Services Firm.

The following sources were used in preparing this article:
Desjardins, “Individual Pension Plan.”
Financial Post, “Five investment strategies to help you lower your taxes,” October 2015.
Government of Canada, “Old Age Security pension recovery tax.”
Grant Thornton, “Income splitting with family members”; “Paying your spouse or common-law partner and/or children”; “Income splitting using family trusts.”
Les Affaires, “Comment l’imposition des dividendes varie,” May 2016. “Entrepreneurs, payez moins d’impôt grâce à votre assurance vie,” June 2016.
The Globe and Mail, “How the wealthy reduce the tax-man’s take,” September 2017.