December 2010

12 months… 12 resolutions

Now or never is the time to make certain decisions that could have a significant impact when you fill out your income tax return next April. And since there are 12 months in the year, here are 12 such tax-reducing decisions for you to consider.

1.     Tis the season for distributions!
Every year, thousands of investors suddenly discover that they have to pay taxes on unregistered investment funds that they haven’t sold yet. That’s because many funds distribute all of their income, dividends and capital gains for the year to their unitholders. The plus side for these unitholders is that they are already paying off some of the taxes they would have had to pay when they sell their units. But if it’s a problem for you, there are ways to reduce this phenomenon. Ask your financial services professional.

2.     Pay your bills – especially your tax bills
If you have to pay tax by instalments, you should realize that the interest rates applied to late payments by our two levels of government can be prohibitive. Do you have a line of credit? Use it to pay your instalments on time. It will cost you less in interest than letting your debt to the taxman stand.

3.     Maximize your RRSP contribution
We can’t say it often enough:  the registered retirement savings plan (RRSP) is the foundation of all personal financial planning. Your RRSP is an invaluable tool for making your money grow in a tax-sheltered environment. But more than that, it’s a way of reducing your taxable income. This not only saves you in taxes, but might also make you eligible for certain tax credits and other measures. Expecting a significant increase in your income next year? You can decide to wait until then to claim your contribution deduction, thus maximizing your tax savings, since you will be in a higher tax bracket. Finally, if you turned 71 this year, you can make one final contribution to your RRSP – but you have to do it before December 31, 2010.

4.     Contribute to your RESP
Who would turn up their nose at a return of 20% to 30%? That’s what a registered education savings plan (RESP) guarantees you in the form of grants, up to a maximum of $500 to $750 (depending on the province) per child, per year. Contribute before December 31 to be eligible for a grant for 2010. Be aware, though, that to open an RESP, both you and the child need to have a social insurance number.

5.     Use your TFSA, too
If you are in a position to put even more money aside for your children’s or grandchildren’s future education, use an RESP in conjunction with a tax-free savings account (TFSA):  the RESP to benefit from the grants, and the TFSA for all additional contributions. When the time comes to withdraw the funds, the TFSA will be much more flexible. In fact, use a TFSA for any investment you would like to shelter from taxes once you have maxed out your RRSP and RESP contributions.

6.     Realize your gains… or your losses
Year-end is the ideal time to check the plus/minus column, i.e. your capital gains and losses. Don’t forget that if you realize your losses by selling certain investments before the end of the year, you can apply these against any capital gains you may have had from selling other investments in 2010 – and reduce your taxes in the process. If you still have some losses left over, you can apply them against capital gains made in the three previous years, or carry them forward indefinitely. On the other hand, if your gains outweigh your losses, look back to see if you have any old losses handy! Watch out for traps, though, such as “apparent losses”, and consult your financial services professional and your accountant.

7.     Pay your deductible expenses before December 31
That dental implant or eye surgery cost you a lot. The least you can do is make sure you can deduct them from your income tax right away! In fact, you should make all of your deductible payments before December 31:  medical expenses, charitable donations, political contributions, and so on. Similarly, be aware that certain strategies allow you to replace loans where the interest is not deductible with others, made for investment purposes, where the interest is fully tax deductible. Consult your financial services professional and your accountant.

8.     Upgrade yourself
Do you work for yourself or own a business? If you need to upgrade your computer systems (including system software), don’t delay:  the federal government has instituted a temporary measure that allows you to amortize 100% of the cost in the year of acquisition. This measure applies to new equipment and ends next February.

9.     Divide and conquer
Do you and your spouse have very different levels of pension income? Use the income splitting rules to assign part (up to 50%) of the higher pension to the spouse with the lower income. The result will be a reduction in your overall tax bill – you could save hundreds or even thousands of dollars in taxes every year.

10.  Pay yourself a dividend… or not
If you own a business, don’t forget that how you split your personal income between salary and dividends could have an impact on your tax bill in April. Be careful, though:  it’s not a case of simply paying your whole income with dividends. A salary is required for RRSP contribution room and to participate in certain social programs, notably the child care expenses deduction. Furthermore, the calculation might change depending on whether or not your business is below the reduced tax rate threshold for small businesses.

11.  Keep it in one year
If you expect to withdraw funds from your RRSP under the Home Buyers Plan, be sure to do it all in the same calendar year, otherwise withdrawals made in the next year could be fully taxable.

12.  Be generous… and smart
Last but not least, the end of the year is a great time to be generous. But have you ever thought about donating securities, rather than money, to a recognized charity? In addition to the charitable donation tax credit, you could save taxes on the capital gain that would otherwise have been associated with the disposal of the securities. Not only that, but if the donation is made through your private company, you can credit an amount equal to 100% of the capital gain to your capital dividend account, from which non-taxable dividends can be paid out to shareholders. So it’s true:  generosity is rewarded!

These are just some of the more obvious decisions to consider as we approach the end of the year. However, depending on your situation, there are dozens of other measures that might also be to your advantage. That’s why there couldn’t be a better time to give your financial services professional, your accountant, and your tax advisor a call.

Happy 2010 year-end – and Happy Tax Time next April!