Federal Budget 2023: Previously Announced Measures
Budget 2023 confirms the government’s intention to proceed with the following previously announced tax and related measures, as modified to take into account consultations and deliberations since their release.
- Legislative proposals released on November 3, 2022 with respect to Excessive Interest and Financing Expenses Limitations and Reporting Rules for Digital Platform Operators.
- Tax measures announced in the Fall Economic Statement on November 3, 2022, for which legislative proposals have not yet been released, including: automatic advance for the Canada workers benefit; investment tax credit for clean technologies; and extension of the residential property flipping rule to assignment sales.
- Legislative proposals released on August 9, 2022, including with respect to the following measures:
- borrowing by defined benefit pension plans;
- reporting requirements for Registered Retirement Savings Plans (RRSPs) and Registered Retirement Income Funds (RRIFs);
- fixing contribution errors in defined contribution pension plans;
- the investment tax credit for Carbon Capture, Utilization and Storage;
- hedging and short selling by Canadian financial institutions;
- substantive Canadian-controlled private corporations;
- mandatory disclosure rules;
- the electronic filing and certification of tax and information returns;
- Canadian forces members and veterans amounts;
- other technical amendments to the Income Tax Act and Income Tax Regulations proposed in the August 9th release; and
- remaining legislative and regulatory proposals relating to the Goods and Services Tax/Harmonized Sales Tax, excise levies and other taxes and charges announced in the August 9th release.
- Legislative proposals released on April 29, 2022 with respect to hybrid mismatch arrangements.
- Legislative proposals released on February 4, 2022 with respect to the Goods and Services Tax/Harmonized Sales Tax treatment of cryptoasset mining.
- Legislative proposals tabled in a Notice of Ways and Means Motion on December 14, 2021 to introduce the Digital Services Tax Act.
- The transfer pricing consultation announced in Budget 2021.
- The income tax measure announced on December 20, 2019 to extend the maturation period of amateur athletes trusts maturing in 2019 by one year, from eight years to nine years.
- Measures confirmed in Budget 2016 relating to the Goods and Services Tax/Harmonized Sales Tax joint venture election.
Disclaimer: Avisar Chartered Professional Accountant’s blog deals with a number of complex issues in a concise manner; it is recommended that accounting, legal or other appropriate professional advice should be sought before acting upon any of the information contained therein. Although every reasonable effort has been made to ensure the accuracy of the information contained in this post, no individual or organization involved in either the preparation or distribution of this post accepts any contractual, tortious, or any other form of liability for its contents or for any consequences arising from its use.
Retirement Planning Tips from an Expert
Learn innovative retirement planning tips and strategies from an expert: Adam Bornn, CFP, Partner, Parallel Wealth Financial Group. A complete transcript can be found below the video for those who prefer to read.
Retirement Planning Tips Canada – Transcript
“Hi, my name’s Adam Bornn from Parallel Wealth.
Today I want to talk about retirement planning and a lot of you focus on building up for retirement, but when it comes time to retire, there are a lot of important decisions you need to make. When to take your CPP? When to take your old age security? How to draw down your registered accounts?
There’s a lot that goes on between your income stream and your tax stream. So today I want to talk a little bit about things you need to think about as you head into retirement and a couple retirement planning tips that you should probably implement within your retirement plan to make it more efficient as far as giving you more after-tax income and paying less tax to CRA.
I want to share the planning software that we use here, and this is called Snap Projections. Now, if your financial planner isn’t putting a plan like this together for you, loop back with him or her and have them do this. This is part of the service that you should be paying for with your financial planner.
So what we have here is a husband and wife, they turn 65 in 2022, and they’re looking to retire. They need to transition from saving up to join an income stream. And so you’ll see here if we plug in their information, so we have some CPP, some old eight security coming in, and they each have $300,000 of RSP and 100,000 of tax-free savings that they’ve saved up and built up over time.
If we take this client, put in their information, their assets, their CPP, and map them out all the way until age 90, so assuming they’re going to live till age 90, you can see on the left-hand side here a real dollar income.
We put a 2% inflation rate in this plan of $68,694. So that is their after-tax income on an annual basis from today, age 65 retirement all the way down to age 90. The nominal dollar beside it is just the actual dollar amount they were going to have in their pocket to spend every single year. So 6$8,694. Again, this has him starting CPP right away at 65, old age security at 65 as well, and starting to draw down on the registered accounts.
If I go into Mr. YouTube here, you’ll see his CPP amount, his old aid security amount, and then again he’s taking about just shy of $12,000 out of his RRSP or RRIF at that point and about $9,000 from his TFSA. And he’s paying average tax rate or effective tax rate of just shy of 6%, so it doesn’t look too bad. And again, a nice little income in retirement of $68,700 after tax.
Now while that plan looks really good, provides a good income, and that’s typically the type of plan you’re going to get from an advisor if you get a plan at all. But what you want to look at is, okay, well what happens if I delay my CPP or delay my old age security or draw up my accounts a little bit differently? What is the total tax bill? And so again, on that plan there that you guys were looking at, the total tax bill was $227,000.
So that’s the total amount of tax they’re going to pay from age 65 until age 90. When you build out a financial plan, ask like how much tax am I paying? What is my after-tax income? What does my estate look like? Again within this plan, if I click on that total tax bill, that’s where you see that $227,000 of total tax, that’s combined.
One of the issues I have with your stock plan, which is what we’re looking at here, is if we scroll down to age 86, which is near the bottom here, you’ll see we have a bunch of RRSPs or RRIFs left at that point, close to $300,000, which create a tax bill, right?
If both Mr. And Mrs. YouTube passed away, there’d be a tax bill of about $111,000, which obviously we want to try to avoid. And the better we can avoid that tax bill and kind of that money into your pocket versus series later, obviously that’s much better. So how do we do that?
So when billing out a clear and concise financial plan for our clients, we look at a couple things. Deferring CPP is one of the biggest things. And at the end of the day, we’ve put hundreds of these plans together, and I can tell you that for 99% of Canadians, you should be delaying your CPP, your Canadian pension plan, all the way to age 70 or as close to 70 as possible.
Typically, we would only recommend taking your CPP prior to age 70 or closer to 65 for that matter, is if you had a health issue or you just needed the income, like there was no other income sources to draw from and you had to draw on your CPP just to put food on the table and pay the bills.
So, let’s take a look at the same plan here, but what we’ve done is we’ve bumped a CPP until age 70, and you’ll see that in the CPP column here. Now we’ve left old age security at 65. There’s more of a benefit to delay your CPP than your old age security. I won’t go into that in this video. We’ll cover that on a future one, but if we defer that CPP until 70, that’s going to help us out.
Now the other thing I’ve done that I’ve kind of stepped into here as well is we’ve done what we call the RRSP meltdown, and that is drawing down your registered accounts as quickly but as taxed efficiently as possible. And you’ll see here in the RRSP, so we’ve converted to a RIF and we’re drawing out about $30,000 a year until CPP starts at 70. Then we’ve scaled it back to $20,000.
What’s nice is that registered account is gone by 83, 84, so life expectancy 86, 87, that registered account is gone by the time you pass away. Now you still have that TFSA account that you can use, draw money out tax free. It’s much more efficient type of plan.
One of the other pieces of the plan when you build it like this, is not only by 83, 84, there’s no estate tax because you’ve drawn out all your RIF account or registered accounts at that point, but your only income is coming in from CPP and OAS and your tax free savings account, which is non-taxable.
Later in life. If you have to go to a care facility or you need in-home care, most institutions will build you off of your income. Now again, you could have the same income, but because it’s coming from the tax free savings account, it’s not taxable income.
So that’s one of the big benefits that we see with our elder clients in that you have the same income, but a lot of it’s not taxable, which allows you to pay a little bit less tax for rather your care facility or in-home care.
So by delaying that CPP from 65 to 70 and by drawing down your RIF account, your registered accounts, in a more tax efficient manner, and again, if you have RSPs and LIRAs and other accounts, it’s the same process. You want to draw those out in an efficient manner by life expectancy, kind of your mid 80s.
And if we do that in this plan, you can see that real dollar after tax income jumps closer to $70,000. It’s almost $1,000 more after-tax adjusted for inflation every year from age 65 to 90. So quite substantial.
Not only that, but if we look at your tax bill, we’ve reduced it from $227,000 down to $191,000. And lastly, if we look at age 86, scroll over estate tax is going to be $0. So again, it’s a much more efficient type of plan to create if you’re looking to create more income, more after-tax income, less taxes, and a better estate plan.
Typically defer your CPP using that time where you’re not collecting your CPP but need an income to start drawing down on your registered accounts.
What I want to close with today is what we call the laddered income. And this is kind of the last step of the process. We’ve created the tax and income strategy and created the most efficient plan that we can create. But now I want to create an income stream that better matches your lifestyle in retirement.
There’s a lot of research done around this, but from data retirement till about 71 to 73 years old, that’s kind of your, we call a go-go phase of retirement.
So there’s three phases of retirement. Your go-go phase until we typically map it until 75. Then from 76 to 85, it’s your slow-go stage. You might do a bit of travel, you’re still spending a bit of money, but you scale back. And then from 86 onward, it’s your no-go stage. You’re not spending much, you’re not doing much. It’s a much lower expense time of life for you moving forward.
So, I want to create more of a laddered income strategy. So if I take that same scenario that we just looked at and ladder it out, here’s what it looks like.
So again, instead of $69,600 per year, we’ve laddered it out at $75,000. So giving you more early, you can travel more, you can spend more money, Let’s allow you to do that. So $75,000 all the way down to age 75. Then we’ve scaled it back to $65,000 from 76 to 85, and then down to just shy of $61,000 later in life.
So still lots of money later in life, enough to pay the bills. And again, for those of you that have real estate, typically you wouldn’t sell real estate in the plan, you might downsize if you want to downsize, but if you have to go to a care facility or need in-home care, there’s always that asset in the background to lean on.
Plus you still have $5,000 after tax of income from 85 onward. I don’t know any clients of mine that are spending that amount of money at that point in their life, it’s typically 1,500 to $2,500 a month. So there’s lots of free cash flow there to help for a care facility or in-home care for those of you that are worried about that.
So hopefully that gives you a bit of a glimpse on what you should be looking for when your financial retirement plan is built out. Again, you want to look at when is the best time for you to take your CPP and hold date security and again, have your advisor run that for you and show you the differences of taking it now, whatever that means for you, 65, 70, somewhere in between, same with your old date security, look at the tax situation, your estate tax situation.
All these things come into play. Again, you want to create the most efficient tax and income strategy for you, and then look to create that laddered income. Again, you want more money early in retirement, but with the peace of mind that you’re going to have enough later in life.
I know doing this for the last 17 years that most people when they hit retirement, they’re not spending enough money early in retirement. What creating that laddered strategy does is it gives you that peace of mind of look, I can go spend that $75,000 knowing that I still have 60 later on in life.
So thanks again for joining me again in this video. Hope you enjoyed it. Hopefully you learned something through these retirement planning tips and we’ll do this again soon. Thank you.”
You can get more great insights and tips from Adam on his own YouTube channel.
Disclaimer: Avisar Chartered Professional Accountant’s blog deals with a number of complex issues in a concise manner; it is recommended that accounting, legal or other appropriate professional advice should be sought before acting upon any of the information contained therein. Although every reasonable effort has been made to ensure the accuracy of the information contained in this post, no individual or organization involved in either the preparation or distribution of this post accepts any contractual, tortious, or any other form of liability for its contents or for any consequences arising from its use.
Why Commercial Real Estate Chose Me As An Investor
Our guest expert for this post is Darcy White of Westred Partners Inc. You can learn more about him at the end of this post.
Robert Kiyosaki, in his 44 million copy selling book on personal finance, Rich Dad, Poor Dad: What the Rich Teach their Children about Money that the Middle Class and Poor do Not! (1997) offered, as a teaching metaphor, a comparison between his highly educated and successful father (Poor Dad) and his less educated entrepreneurial best friend’s dad (Rich Dad). His own father, a high earning professional, suffered by comparison to the low wage, entrepreneurial dad who is revealed to eventually own a portfolio of high equity commercial real estate.
I have lived Kiyosaki’s metaphor. My father was an electrical contractor who built sawmills and dry kilns all over Western Canada. He was a capable, honest, and respected tradesman, and I am proud to be his son and carry his name. My father-in-law was a real estate developer, landlord and investor. And, while I owe much of what I have to both of these two men, I am not an electrical contractor. I own and manage a real estate investment company that I have named after my father-in-law.
Over the past 22 years I have created, financed, and led three different investment companies focused upon identifying distressed commercial real estate (CRE) properties with unrealized, or latent value. I have purchased, renovated, re-financed, and eventually realized a favorable return on investment in them.
CRE encompasses residential housing, warehousing, retail, and office spaces, and each has a risk profile that is influenced the quality of the building and lands, security of tenancies, prevailing capitalization rates, interest rates, and always “location, location, location.”
Risk vs Reward
When my partners and I undertake a commercial real estate project, we believe that we are engaging in a predictable, projectable, and a low-risk enterprise. Commercial real estate (CRE) has its specific and endemic risks, however, as an asset class it can be purchased with leverage, appreciates faster than the inflation rate, has relatively weak management competition, and is operationally uncomplicated.
Returns on Investment
Returns in real estate are taxed or tax-deferred, and, depending upon your investment goals, can be timed for tax efficiency. Payment of mortgage principal are taxable. So are the incomes after allowable expenses. However, asset appreciation in the market, which can be substantial is deferred and can be timed through refinance or sale of the asset.
Operational Expectations
A good manager might be able to realize double-digit annual returns in the range of 4% capital repayment, 4% free cash from operations and 4% market appreciation. However, paying down principal, refinancing, raising rents, and improving operational efficiencies can improve those returns every year.
Limitations of Commercial Real Estate Investing
While there are varied ways to participate in a CRE investment, usually the bar for investing, outside of a registered fund, is high. To be clear, CRE is not usually the way to make a quick buck. All investments are measured “over time,” and real estate is no different. Good commercial real estate investing is a patient process and may not be for all investors.
Recommendations for Investing in Commercial Real Estate
I am not an evangelist; however, I do urge those involved in high income, low asset value businesses to consider adding well-chosen, investment class real estate to their financial portfolio. Participating in CRE can be as simple as renting a (legal) suite in your home, owning your business’ facility, participating in RRSPs that include real estate, or partnering in a syndicated real estate partnership. I have participated in all the above, and in the right circumstances, I regard each as a reasonable approach to building wealth.
Cautions
However, like all financial decisions, I would counsel engaging industry professionals: financial planners, accountants, and legal counsellors in the process. There are no shortcuts to executing a good financial plan, and the cost of fixing one is high. As an aside I must acknowledge that my progress and results are evaluated, accounted for, and reported on for taxation, right here at Avisar.
Acknowledgements
If I were to advise my hardworking father in 1982, I would have insisted that he invest some of the earnings from his best years into commercial real estate. When he retired in 1996 and laid down his tools, his earnings ceased with the collection of his last outstanding account. By comparison, when my asset-rich father-in-law retired in 1996, his net worth increased in value more than 150% over the next decade while his earnings continued to rise. Moreover, he was able to exercise provisions in the Canadian Tax Act to optimize his CPP, OAS, wage, shareholder provisions, and a host of other rights available to him (See your professional accountants at Avisar for more on this 😊).
I need to come clean. I did not research and discover real estate – I was neither that prescient nor clever. Rather, real estate found me. My father-in-law invited me to join him and manage his real estate assets. However, I was a willing student and quickly discovered that I loved what I do working in real estate.
I love my work.
Finally, to be clear, both of my fathers were rich in the ways that truly mattered. Both were beloved spouses, good parents, and doting grandfathers. They were dear friends to many, supporters of numerous charities, community builders, and good men. These were truly great men, and their legacy extends beyond their net worth.
For the record, I also recommend carry-on luggage, paying for tour guides in museums, purchasing good shoes, always stopping on road trips for go-carts and ice cream, buying as good a wine as the occasion demands, tipping, and splitting the entre.
I podcast weekly at: https://soundcloud.com/advanced-rei
I write on real estate, leadership, and dadding at: www.darcywhite.ca
And I can be reached at: darcy@westred.ca Cheers to meaningful work, community building, and making a difference!
Disclaimer: Avisar Chartered Professional Accountant’s blog deals with a number of complex issues in a concise manner; it is recommended that accounting, legal or other appropriate professional advice should be sought before acting upon any of the information contained therein. Although every reasonable effort has been made to ensure the accuracy of the information contained in this post, no individual or organization involved in either the preparation or distribution of this post accepts any contractual, tortious, or any other form of liability for its contents or for any consequences arising from its use.
How To Minimize Tax On Investment Income
Different types of investments can offer different benefits. There are also different ways that your investments can be taxed. Sometimes it can get a bit confusing. In this post, we’re going to look at three ways your investments may be taxed and strategies you can use to minimize the tax on investment income you generate.
While business leaders tend to succeed because they possess rare skills and a laser focus on their respective industries, sometimes it’s important to tap the brakes. By enlisting the support of an experienced accounting firm, professionals can reduce their tax on investment income.
How Are Your Investments Being Taxed?
Although taxes are one of life’s certainties, they prove complicated in Canada. The government considers the mechanisms everyday people utilize to generate income and assign different tax methods and rates. The tax on investment income often depends on a person’s marginal bracket and the revenue source. These are ways tax on investment income typically works.
- Income From Interest: The income generated from interest on bonds, for example, ranks among the hardest tax hits. This source of revenue is usually subjected to the full weight of someone’s highest marginal tax rate.
- Dividends: If the dividend payment you received comes from a Canadian source, it may be eligible to be taxed at a lower percentage than your marginal income bracket. A foreign company’s dividend is typically ineligible and, therefore, taxed at a higher rate.
- Capital Gains: Fifty percent of profits from the sale of assets are usually added to adjusted gross income and taxed at someone’s marginal rate. While half of the capital gain is not subject to taxation, sudden spikes in income can drive business professionals into higher brackets.
Canadian residents routinely invest in American companies, and professionals would be wise to consider the tax implications. While upwardly mobile entities attract global investors, Canadians can anticipate paying up to 30 percent withholding tax on foreign dividends.
Tax on Investment Income Questions Worth Considering
Proactive business professionals thrive by making savvy decisions and quickly following through with a plan of action. But people outside the accounting trades may not realize the tax on investment income liability they are inadvertently creating. Consider the following questions and talk to an expert before making financial moves.
Are You Effectively Managing RRSP and TFSA Contributions?
Both the Registered Retirement Savings Plan (RRSP) and Tax-Free Savings Accounts (TFSA) rank among the best small business tax deductions available. Sole proprietors and partners can derive significant benefits. These tax shelters are driven by maximum contributions, marginal tax rates, and can also be carried forward. Increasing contributions when your salary is high could reduce your marginal tax rate and overall liability.
Do You Have a Capital Gains Tax Strategy?
The taxes on capital gain profits continue to prove complicated, and professionals sometimes pay more than required. Liquidating assets to increase revenue can drive industry leaders into higher brackets because they failed to take advantage of deferment options and exemptions.
How Can Non-capital Losses Save Money?
It sounds counterintuitive, but sometimes a loss can save an organization money. Should a small business or non-profit experience higher expenses than revenue, the shortfall can be put to work. But that financial hit doesn’t necessarily have to be taken for the year you lost money. These losses can be carried forward to strategically lower your tax liability.
Do Non-profits Pay Tax on Investment Income?
The Canada Revenue Agency treats non-profits and charities differently. Although neither can use income as a member perk, charities are largely tax-exempt. Because there is significant overlap between non-profits and charities, it would be wise to know whether an organization qualifies as tax-exempt. An experienced accounting firm can help answer that question and do the paperwork to save you money. If you operate a small business or lead a non-profit organization, knowing the tax on investment income implications can help you make informed decisions.
At Avisar Chartered Professional Accountants in Langley, British Columbia, our experienced team works diligently with private sector and non-profit business leaders to minimize tax liability and plan for success.
Book a free consultation to talk about your investment tax strategy.
Disclaimer: Avisar Chartered Professional Accountant’s blog deals with a number of complex issues in a concise manner; it is recommended that accounting, legal or other appropriate professional advice should be sought before acting upon any of the information contained therein. Although every reasonable effort has been made to ensure the accuracy of the information contained in this post, no individual or organization involved in either the preparation or distribution of this post accepts any contractual, tortious, or any other form of liability for its contents or for any consequences arising from its use.
Federal Budget 2022: Retirement Plan Measures
Borrowing by Defined Benefit Pension Plans
Budget 2022 proposes to provide more borrowing flexibility to administrators of defined benefit registered pension plans (other than individual pension plans) for amounts borrowed on or after April 7, 2022.
Reporting Requirements for RRSPs and RRIFs
Budget 2022 proposes to require financial institutions to annually report to CRA the total fair market value of property held in each RRSP and RRIF at the end of the calendar year. This information would assist CRA in its risk-assessment activities regarding qualified investments held by RRSPs and RRIFs. This measure would apply to the 2023 and subsequent taxation years.
Federal Budget 2022: Previously Announced Measures
Budget 2022 confirms the government’s intention to proceed with the following previously announced tax and related measures, as modified to take into account consultations and deliberations since their release:
- Legislative proposals relating to the Select Luxury Items Tax Act (a tax on certain automobiles, boats and aircrafts) released on March 11, 2022.
- Legislative proposals released on February 4, 2022 in respect of the following measures:
- electronic filing and certification of tax and information returns;
- immediate expensing;
- the Disability Tax Credit;
- a technical fix related to the GST Credit top-up;
- the rate reduction for zero-emission technology manufacturers;
- film or video production tax credits;
- postdoctoral fellowship income;
- fixing contribution errors in registered pension plans;
- a technical fix related to the revocation tax applicable to charities;
- capital cost allowance for clean energy equipment;
- enhanced reporting requirements for certain trusts;
- allocation to redeemers methodology for mutual fund trusts;
- mandatory disclosure rules;
- avoidance of tax debts;
- taxes applicable to registered investments;
- audit authorities;
- interest deductibility limits; and
- crypto asset mining.
- Legislative proposals tabled in a Notice of Ways and Means Motion on December 14, 2021 to introduce the Digital Services Tax Act.
- Legislative proposals released on December 3, 2021 with respect to Climate Action Incentive payments.
- The income tax measure announced in Budget 2021 with respect to Hybrid Mismatch Arrangements.
- The transfer pricing consultation announced in Budget 2021.
- The anti-avoidance rules consultation announced on November 30, 2020 in the Fall Economic Statement, with an expected paper for consultation over the summer of 2022, and legislative proposals tabled by the end of 2022.
- The income tax measure announced on December 20, 2019 to extend the maturation period of amateur athletes trusts maturing in 2019 by one year, from eight years to nine years.
- Measures confirmed in Budget 2016 relating to the GST/HST joint venture election.
Budget 2022 reiterates the government’s intention to return a portion of the proceeds from the price on pollution to small and medium-sized businesses through new federal programming in backstop jurisdictions (Alberta, Saskatchewan, Manitoba and Ontario). Budget 2022 proposes to provide funds, starting in 2022-23, to Environment and Climate Change Canada to administer direct payments to support emission-intensive, trade-exposed small and medium-sized enterprises in those jurisdictions.
Budget 2022 also reaffirms the government’s intention to revise the Employment Insurance (EI) system, including its support for experienced workers transitioning to a new career and coverage for seasonal, self-employed and gig workers. A long-term plan for the future of EI will be released after consultations conclude. As an interim measure, Budget 2022 proposes to extend previous expansions to EI coverage for seasonal workers.
Can Smart Capital Gains Financial Planning Save You Money?
What are capital gains? The profit people generate from selling an asset or investment is typically referred to as a “capital gain.” The term has also become synonymous with taxation, because a percentage of the profit margin may end up in the government’s coffers. But it’s important to understand that not every asset falls under the capital gain rules. Financial planners and accountants have strategies to utilize to minimize tax liability.
How Are Capital Gains Taxed in Canada?
Profits made from selling items such as stocks, bonds, mutual funds, and exchange-traded funds generally fall under capital gain rules. The same applies to tangible assets, such as rental properties, second homes, equipment, and luxury items, which also may be subject to after-sale taxation. Principle homes generally are exempt as long as they remain a primary residence.
Although there is not necessarily a “capital gains tax” explicitly written into law, 50 percent of the profit earned from the sale of an asset becomes taxable. The rate of taxation is based on the person’s marginal tax rate. For instance, if you sold a second home for $100,000 above the purchase price, minus expenses, you’d apply $50,000 (half) to your taxable income. If you’re in the 33 percent bracket, then one-third of the $50,000 goes to taxes. The remaining two-thirds plus the untaxed $50,000 are free and clear profit.
That’s why it’s crucial to maintain diligent records regarding reasonable expenses associated with an asset. Fees, commissions, maintenance, advertising, and improvements are generally deducted from the amount of capital gain total and potential taxes.
The Difference Between Capital Gains and Investment Income
It’s not uncommon for people to find the difference between capital gains and investment income confusing. This holds particularly true when dealing with investment opportunities such as stocks.
While the two are not necessarily mutually exclusive, investment income generally refers to ongoing profits. Dividends on a lucrative stock or monthly rent payments from a real estate property are examples of investment income. They are not subject to the same tax formula as a capital gain generated from the sale of an asset.
How to Minimize Taxes on Capital Gains
The fact that someone makes a hefty profit on the sale of an asset doesn’t mean they must pay the full face value in taxes. A savvy accountant may employ the following strategies to reduce capital gains tax liability.
- Establish Tax Shelters: These financial umbrellas shield investments and allow people to buy and sell stocks in a duty-free environment. Shelters such as a Registered Retirement Savings Plan, Registered Education Savings Plan, and Tax-Free Savings Account rank among the popular ways Canadians manage wealth without incurring taxes on annual capital gains. However, tax shelters do limit your ability to deduct capital losses.
- Deduct Capital Losses: Sometimes, people become hyper-focused on paying taxes on profits and overlook losses. This scenario proves common with real estate investments. Property owners may lose track of the ongoing expenses, fees, taxes, interest payments, and wide-reaching other costs. Although you may have earned sound investment income over the years, the final sale could result in an overall loss. It’s critical to subtract all of your expenses before arriving at a capital gains figure.
- Know When to Pay: One of the capital gains caveats involves deferment. If you receive a capital gain from a divorced spouse or deceased parent, the taxable amount does not necessarily come due that year. The new owner of an asset incurs the tax liability when they sell it and earn a profit. It’s important to keep in mind that the profit will be calculated based on the value when your ex-spouse or parent purchased the asset.
- Lifetime Exemption: Certain small business owners may be eligible for the Lifetime Capital Gains Exemption when selling farms, fishery property, and qualifying private interests. Canada’s lifetime exemption proves complicated, and it’s advisable to consult with a tax professional.
An experienced advisor can help you minimize their tax liability by spreading the profits over years. This strategy, often called a capital gain reserve, does more than simply postpone payment. A capital gain reserve can reduce the amount you pay.
What Is a Capital Gains Reserve?
A capital gains reserve effectively reduces the amount of profit you enjoyed as income in a given year. After calculating your capital gain, everyday people can lower that figure on the income by claiming a reserve amount. Taxpayers can usually spread the total revenue over five years using a specific formula.
In cases involving family farms, fishing businesses, among others, a qualifying capital gains reserve may be extended for upwards of 10 years. This type of deferment helps prevent the gain from driving you into a higher tax bracket and unnecessarily giving more of your hard-earned money to the government.
While Canadians all need to pay their fair share of taxes, it’s equally important to ensure the best financial stability for you and your business.
Want to know more about the difference between capital gains and investment income? Contact Avisar Chartered Professional Accountants and schedule a consultation today.
Avisar is a highly-regarded accounting firm operating in Langley, Abbotsford, Surrey, Vancouver, and the rest of the Lower Mainland.
Disclaimer: Avisar Chartered Professional Accountant’s blog deals with a number of complex issues in a concise manner; it is recommended that accounting, legal or other appropriate professional advice should be sought before acting upon any of the information contained therein. Although every reasonable effort has been made to ensure the accuracy of the information contained in this post, no individual or organization involved in either the preparation or distribution of this post accepts any contractual, tortious, or any other form of liability for its contents or for any consequences arising from its use.
5 financial mistakes to avoid when you’re young
As a fresh graduate, saving for the future can be hard to envision. But being money-wise in these earlier years can have exponential pay-offs in your later years.
According to experts, avoiding several spending traps when you’re early in your career can help set you up for a more stable financial future.
Accumulating credit card debt
Spending within your means may seem obvious, but when you’re fresh out of school and looking for a job, this can be challenging.
“I think a lot of young people, even in university, don’t really have steady employment and end up spending more than they would have spent in cash,” says CPA David Trahair, a personal finance expert and author of CPA Canada’s free practical guide, Survive and thrive: Move ahead financially after losing your job.
Credit cards in and of themselves aren’t bad – in fact they’re a helpful way to establish a credit history – but it’s important to understand what you’re signing up for. High-interest rate cards can accumulate debt quickly, if you’re not paying down the balance each month, Trahair says. Spending only what you can afford – or only what you must, where possible – can set people up for better financial health, since they are actively trying to keep balances low.
If you do find yourself in a position where you need to take on debt, try to use a lower interest rate, point-free card. “The benefit of the points rewards is often less than one per cent a year,” says Trahair. “It doesn’t make sense to carry a balance when the credit card rate is as high as 20 per cent or more.”
Another option is to obtain an unsecured line of credit, he says, to avoid high-interest rate credit cards. However, without having previous past credit to build up a good credit score, a parent may have to guarantee the credit card or loan to qualify the candidate.
Investing before paying off debt
While the idea of saving and growing money is attractive, investing money only makes sense if your credit card debt is paid down, says Trahair.
“When you’re in credit card debt, the company is charging you interest,” he says. “To save, you’re taking money that would otherwise be spent to pay down that credit card.” With companies charging between 20 to 24 per cent interest, credit card debt quickly accumulates.
“People like the idea that they have savings,” says Trahair. “They’ll say, ‘So I owe $10,000, but I have $2,000 of savings.’ They’re in worse shape than the person that only has $8,000 on that credit card [because of the accumulating interest]. The best investment is paying down that credit card debt.”
Delaying life insurance investments
Often when you’re young, obtaining a life insurance policy isn’t top of mind – but it should be, says CPA Garth Sheriff, who runs CPD consulting firm Sheriff Consulting.
“Theoretically, it’s when you’re the healthiest,” he says. “You’re more likely to get a lower premium plan and, if you get something that you can lock into, it can also be a savings return vehicle. It’s not only a safety net, but it also builds equity.”
Plans such as universal life insurance and whole life, he says, work like investment policy funds that have a cash surrender value – meaning you don’t just acquire funds in death, but the cash value builds up as savings. Each plan has its own risk tier, so be sure to research the appropriate plan and available options, he says.
Not setting an end goal
Understanding why you are trying to save money leads to a more successful outcome, says Trahair. While this goal may be different for everyone, ultimately, each person has a life target they want to meet, whether it’s buying a home or planning for retirement.
“The best thing you could do for your personal finances is track where your money’s going,” he says. Trahair recommends using free budgeting apps or those available through banking services to help identify spending habits.
Budgeting, he says, requires historical information. But, if you’re just graduating or starting out on your own, you won’t have this data. If you track your spending even for just one month, you’ll reveal a strong financial picture, as most people tend to have the same habits (save for the odd month where there may be a big-ticket item purchase or vacation, etc.), he says.
Reducing the number of spending sources is also advised. “If you have three or four bank accounts and three or four credit cards, this exercise is going to be very difficult,” he adds.
Living paycheque to paycheque
This is the least desirable scenario for anyone. Sheriff recommends striving for six months to a years’ worth of funds if possible – and start that saving habit when you’re young. Having a financial safety net has the added benefit of improving your borrowing power in the future.
“That early time in your life, as you’re building your credit history and your ability to borrow, is really important,” he says. “Even if you don’t know what your plan is.”
Whether you’re saving for an additional designation or taking a year off, Sheriff says being prepared for the unexpected can help you remain in good financial standing and possibly avoid additional stress and debt, adding, “You never know what life is going to throw at you.”
Registered Retirement Savings Plan VS. Tax-Free Savings Account—What’s The Difference?
Both the Registered Retirement Savings Plan (RRSP) and the Tax-Free Savings Account (TFSA) allow you to build savings in a tax-sheltered environment. So, what are the differences between the two – and when does it make sense to invest in one over the other?
The purpose of the RRSP, as its name states, is for long-term savings for your retirement. The TFSA is a more flexible vehicle to save for more immediate goals, such as buying a new car, house, or creating an emergency fund. And it may also be used to save for retirement.
Who Is Eligable?
The RRSP has no minimum age, but you must have “earned income” in the prior year to create contribution room. Earned income includes income from employment, self-employment and certain other sources, and is reduced by some employment-related expenses, and business and rental losses. The RRSP matures in the calendar year in which you turn 71.
For the TFSA, you can begin contributing as of age 18, and there is no maximum age.
How Much Can You Contribute?
With an RRSP, you can contribute up to 18% of your earned income in the preceding year, up to a maximum annual limit ($27,830 for 2021). Your contribution room is reduced when you have an employer-sponsored pension plan. The contribution for the year must be made by the 60th day of the following year – so, close to the end of March – and you can carry forward any unused contribution room indefinitely.
Keep in mind that if you overcontribute to your RRSP by more than $2,000, there is a penalty of 1% per month. You can deduct up to the greater of your actual contributions and your contribution limit for the year from your taxable income, reducing the amount of tax you pay on other sources of income.
TFSA contributions must be made by December 31 of the relevant year. Here are the annual contribution limits:
2009-12 $5,000
2013-14 $5,500
2015 $10,000
2016-18 $5,500
2019-21 $6,000
Similar to RRSPs, unused TFSA contribution room can be carried forward. For example, if you turned 18 in 2018 and have never contributed to a TFSA, your limit in 2021 is $23,500 ($5,500 + $6,000 + $6,000 + $6,000).
And as with an RRSP, you also face a 1% per month penalty if you go over your contribution limit.
Withdrawing from The Fund?
With an RRSP, you may be able to withdraw funds to buy your first home or finance a return to school without being liable for taxes right away.
- The Home Buyers Plan (HBP) allows you to withdraw up to $35,000 to help pay for your first home; you pay this money back into your RRSP through instalments over 15 years.
- Under the Lifelong Learning Plan (LLP), you can withdraw up to $10,000 in a calendar year, to a maximum total of $20,000, to finance full-time education or training for you, or for your spouse or common-law partner. These funds must be paid back through instalments over 10 years.
Any unpaid instalments for either the HBP or LLP are added to your taxable income for that year. Any other withdrawals from your RRSP are also included in your taxable income in the year that you receive them, and you cannot re-contribute that amount once you have withdrawn it.
Just as there was no tax deduction for TFSA contributions, you do not pay tax on TFSA withdrawals. You can recontribute the withdrawn funds to your TFSA in a subsequent year (just not the same year you withdrew it). The amount withdrawn gets added to your contribution room for future years.
How Does Having A Spouse Help?
If you have a spouse or common-law partner, you can invest up to your contribution limit to a spousal RRSP. Generally, the amounts your spouse withdraws from these plans would be included in their taxable income, rather than in yours. Some restrictions apply.
If there is a significant difference between the incomes of two spouses, the spousal RRSP can minimize the total tax that the family pays in retirement by splitting income between one spouse in a higher tax bracket and the other in a lower tax bracket.
There are no spousal TFSAs. However, you can give money to your spouse for their own TFSA contribution and the income earned will not be subject to tax.
When To Invest In One VS The Other?
There are many factors that would affect whether investing in your RRSP rather than your TFSA may make sense, and these can be quite complex. Here are some general factors that you may consider helpful.
YOUR TAX BRACKET
If you are in a higher tax bracket when you are making the contribution and expect to be in lower tax bracket when you will be withdrawing the funds, the RRSP can offer significant advantages. But if you are in a lower tax bracket when contributing, those benefits will not be as great – though you still benefit from deferring tax from the year you made the contribution to the year that you withdraw the funds.
YOUR TIMELINE FOR WITHDRAWAL
The timeline for when you expect to need the funds is another important factor. When your RRSP matures in the year that you turn 71, you have two options for relief from being liable for taxes immediately: You may transfer the balance in the account to a Registered Retirement Income Fund (RRIF), or use it to purchase an eligible annuity.
RRIF plans require that you withdraw a minimum amount each year, based on your age. It’s also worth noting that any RRSP or RRIF withdrawals or annuity payments are added to your taxable income and may trigger a 15% clawback of the Old Age Security for income above a certain amount ($79,845 in 2021).
While the HBP and the LLP offer you some flexibility to access your RRSP funds without paying tax, the TFSA is much more flexible since you can withdraw funds on a tax-free basis and recontribute them in a future year.
YOUR INVESTMENT TYPE
Your choice of investment type may also affect your choice of RRSP vs. TFSA. For example, if your portfolio includes United States stocks, their Internal Revenue Service (IRS) recognizes the RRSP as a retirement savings account and does not withhold tax on the dividends you receive.
On the other hand, the IRS does not recognize the TFSA in the same way, so there will be a 15% withholding tax charged on those dividends. There is no foreign tax credit to offset that 15%, as there would be for investments in a non-registered account.
The RRSP and the TFSA are both important savings vehicles for Canadians. Understanding the differences between the two can help you make the decision when to use either (or both!) to meet your savings goals.
Disclaimer:
Avisar Chartered Professional Accountant’s blog deals with a number of complex issues in a concise manner; it is recommended that accounting, legal or other appropriate professional advice should be sought before acting upon any of the information contained therein.
Although every reasonable effort has been made to ensure the accuracy of the information contained in this post, no individual or organization involved in either the preparation or distribution of this post accepts any contractual, tortious, or any other form of liability for its contents or for any consequences arising from its use.