Legitimate Tax Reduction Opportunities
With the Registered Retirement Savings Plan (RRSP) contribution deadline for 2022 coming up soon and the personal income tax filing deadline close behind, most Canadian adults are focused on this annual task.
I am a financial planner, not a Chartered Professional Accountant (CPA), so I do not file my clients’ tax returns. But I do offer suggestions on how to take advantage of opportunities to reduce the taxes you might otherwise owe. There are two basic approaches. You can either use a tax deduction, which involves reducing your taxable income, or you can use a tax credit, which based on an action you took, allows you to receive a credit against the taxes that are owed.
This is not an exhaustive list. For example, I do not touch on the tax reduction opportunities available to the self-employed, but the following items represent some helpful examples of deductions and credits.
Registered Pension Plan (RPP)
If your employer offers a Registered Pension Plan (RPP), most commonly a defined contribution plan, it is often the case that both you and your company will contribute to the plan. Your contributions result in a tax deduction for you and employee and employer contributions combined result in a pension adjustment that you will see in Box 52 of your T4 slip. Pension adjustments reduce the room you have available for RRSP contributions.
As an employee, you do not have the power within yourself to arrange for an RPP, but if your employer offers such a plan, it is usually a good idea to accept it, especially if your employer matches your contributions.
Registered Retirement Savings Plan (RRSP)
If you have qualifying earned income, you can contribute to an RRSP. Each dollar contributed to an RRSP results in that dollar being sheltered from tax while it remains within the account. Contribution limits to an RRSP are based on 18% of earned income. This amount accumulates if it is not used.
Beyond the tax deferral properties of an RRSP, perhaps the biggest appeal is the deduction of the money contributed from the contributor’s taxable income. This often results in a substantial tax refund. But remember, this tax is deferred; it must ultimately be paid so the refund should be either plowed right back into the RRSP or else put into a TFSA or other long-term investment/savings vehicle.
Frugal parents who manage to set aside savings sometimes prefer to contribute to the TFSA because of its greater flexibility. However, since RRSP contributions reduce net income, this serves to increase the Canada Child Benefit (CCB).
If spouses have incomes that are meaningfully different from each other, the spouse with the greater income will pay more tax while working. One way to minimize that situation in retirement is for the higher-earning spouse to contribute to an RRSP for the lower-earning spouse’s benefit, known as a spousal RRSP. Please be aware that the contribution room used is that of the contributing higher-income spouse, not the lower-income spouse who owns the spousal RRSP. The lower-income spouse’s contribution room is not considered. Only the contributing spouse receives the tax deduction, but at retirement, the withdrawals are taxed in the hands of the recipient spouse.
Note as well, that if the recipient spouse withdraws money from the spousal RRSP that can be attributed to the higher-income spouse’s contribution in the year of withdrawal or the previous two years, the withdrawal will be taxed in the hands of the contributing spouse, undoing the intention of the spousal RRSP.
Child Care Expenses Deduction
It is not clear to me how or whether this deduction will be affected by the introduction of $10-a-day childcare. However, the expenses you pay to have someone look after your child are deductible. Deductions are currently limited to a maximum of $8,000 per child under age 7 and $5,000 per child ages 7 to 16. Usually, the lower-income spouse or partner must claim the deduction.
This credit is available to seniors aged 65 or older. The maximum federal amount available in 2022 is $7,898. For 2023 the figure rises to $8,396. This figure is multiplied by 15% to arrive at federal tax savings of $1,185 (2022) and $1,259 (2023). The provinces have their respective age credits. This credit is income-tested, however, so if you are still earning a higher income in your senior years, you may only be able to receive a reduced credit or no credit at all. As of 2022, the clawback begins when income exceeds $39,826 and the credit is eliminated when net income exceeds $92,479. Note that this credit can be shared with a spouse so that if one spouse does not require the full credit to reduce taxes payable to zero, it can be passed on to the other spouse.
On the first $200 donated, the federal government provides a 15% tax credit. That works out to a $30 credit. However, if you give (or claim) more than $200 in a year, amounts above that provide for a 29% federal tax credit. Those who are taxed at the highest federal tax rate can even have a portion of their credit applied at the 33% level.
The provinces have similar schemes with a lower rate on the first $200 and a higher rate on amounts above $200.
Spouses can combine their donations in a given year to maximize the tax credit in the hands of one spouse. Another way to take maximum advantage of the higher tax credit for donations above $200 is to delay claiming donations for up to five years. If you consistently make donations of $200 per year, you will only get a 15% tax credit. However, if you combine five years’ worth of donations, you have given a total of $1,000, of which $800 receives a credit of 29%.
One of the reasons I began the title of this blog post with the word “legitimate” is because some people have gotten involved in donation tax shelter schemes that promised to make the donor a profit. My advice: don’t do it.
Charitable Donations in Kind
If you have a non-registered investment account in which you hold securities that have substantial capital gains, consider donating the security or securities in kind (as is, without selling). You will not have to pay the capital gains tax but you will get the charitable donation tax credit for the full value of the donated securities.
Disability Tax Credit
Although I hope this never becomes an issue for anyone, if you become disabled you may qualify for the Disability Tax Credit (DTC). If married and the disabled spouse cannot take full advantage of the credit, it can be shared with the able-bodied spouse.
The 2022 federal DTC amount is $8,870 ($9,428 in 2023), which results in a credit against one’s federal taxes of $1,331 ($1,414 in 2023). The provinces also provide credits.
Medical Expense Tax Credit
If you and your spouse or partner and dependent children incur out-of-pocket eligible medical expenses, you can claim a medical expense tax credit for any twelve months ending in the year of the tax return you file. For example, if in the 12 months from July 1, 2021 to June 30, 2022, you had substantial medical expenses, on the tax return you would file this spring for 2022, you could use those expenses to claim a credit. For 2022, the tax credit is for expenses above the lesser of 3% of net income or $2,479 ($2,635 in 2023). It is advantageous for the lower-income spouse to make this claim for the family.
Pension Income Amount
This only applies in one’s senior pension-receiving years. If you receive a qualifying pension, you can claim $2,000 of your pension and receive a $300 tax credit. Again, provinces have their own credits in place. If you have a spouse or partner, it may make sense to split your pension, giving each spouse a $2,000 claim and a total of $600 in credits.
In most circumstances, withdrawals from an RRSP are not recognized as pension income. However, once you turn 65, even if still working, many people will open a RRIF and transfer $2,000 from their RRSP to take advantage of the credit.
If you are in school, you can obtain a credit for tuition expenses. If you cannot use the entirety of the credit to reduce your taxes to zero, you can transfer up to $5,000 to be used by a spouse, common-law partner, or a parent. Some provinces also provide credits.
Illustrative Tables of Some Deductions and Credits
Not all deductions and credits will be available to all Canadian residents all the time, but they may each have a role to play at different times in one’s life. For example, when I was employed by one of the big banks, I received a T4 and saw a pension adjustment for my pension. I have contributed to RRSPs and received a tax deduction. We also opened a spousal RRSP for my wife when we had small children at home. We have made charitable donations, including the in-kind version. I have received the disability tax credit because of my history of kidney disease. For the same reason, there has also been an opportunity to claim the medical expense tax credit. I have even claimed the pension income amount because of my pension from the bank. Finally, as a student, a spouse of a student, and a father of students, it has been beneficial to claim the tuition credit either directly or as transferred from a family member.
If there is a bottom line to this post, if you are eligible and you can support the claim, apply these legitimate deductions and credits to reduce your taxes.
This is the 185th blog post for Russ Writes, first published on 2023-02-20
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Disclaimer: This blog post is intended for general information and discussion purposes only. It should not be relied upon for investment, insurance, tax, or legal decisions.