Are you looking for tax saving opportunities while filing your tax return? Forward-looking planning with a year ahead can help you find different tax-saving strategies and techniques available to you. Income-splitting techniques may be available to you if you plan ahead and your situation fits.
If you and your family member(s) have different income levels and the marginal income tax brackets are quite different, you may be able to reduce your family’s overall tax burden by taking advantage of the differences. Try to use one or a combination of the following strategies.
You can loan funds to a family member at the prescribed interest rate specified by CRA (the current annual rate is 2%). Your family member can invest the money and the investment income will not be attributed to you (i.e., treated as your income for tax purposes), as long as the interest for each calendar year is paid no later than January 30 of the following year.
The CRA announces the prescribed interest rate on a quarterly basis, based on a three-month average of short-term government of Canada T-bill rates and rounded up to the highest whole percentage number. The current rate can be found on the CRA’s website: https://www.canada.ca/en/revenue-agency/services/tax/prescribed-interest-rates.html
A registered retirement savings plan (RRSP) is a registered account to which you or your spouse or common-law partner could contribute. Deductible RRSP contributions can be used to reduce your tax. In addition to splitting income in retirement years, spousal RRSPs may be used to split income before retirement. The higher-income spouse or partner can get the benefit of making contributions to a spousal plan at a high tax rate and, after a three-year noncontribution period, the lower- or no-income spouse can withdraw funds and pay little or no tax.
Reasonable salaries to family members
If you own a business, consider employing your spouse or partner and/or your children to take advantage of income-splitting opportunities. Their salaries must be reasonable for the work they perform.
This planning is becoming more important than in the past because other income splitting opportunities involving your business (such as paying dividends) may be limited by the recent changes in tax laws.
Recent amendments may limit income splitting opportunities with certain adult family members through the use of private corporations in 2018 and later years. For example, a business is operated through a private corporation, and an adult family member in a low-income tax bracket subscribes for shares in the corporation. A portion of the business’s earnings is distributed to the family member by paying dividends.
These rules apply the highest marginal personal income tax rate (the tax on split income) to the dividend income received unless the family member meets one of the legislated exceptions to the application of this tax. For example, if the adult family member is actively engaged in the business on a regular basis by working an average of at least 20 hours per week during the year (or in any five previous but not necessarily consecutive years), the tax on split income may not apply.