In recent months the Canadian government has mused about the potential for changes in the tax code so that Canadian couples can start filing their income tax returns jointly once the budget is balanced. Most people outside the financial planning profession probably don’t even realize we can’t already do this in Canada. Our neighbours south of the border have been able to do this for years.
Well, in fact there are a few minor ways spouses can share in Canada such as the spousal amount, spousal RSPs, medical expenses and pension splitting but in reality these help very few people in a meaningful way.
The big impact will be for high income professionals and business owners. The issue is this, using Ontario as an example: the combined federal and provincial taxes are about 20% on the first $43,000 of income, then 32% on the next $43,000, then 43% on the next $47,000, then 46% tax when you hit about $133,000 of income. That’s a lot of tax. For high earning professionals, you are giving almost half of every marginal dollar you earn to the CRA. So for example, if you earned total gross income of $200,000 then of the last $67,000 only $36,000 went into your pocket and $31,000 went to the feds.
The idea of getting some of that income reclassified into a lower earning spouse’s name really boils down to getting some income taxed at as low as 20% rather than at 46%, hence putting the difference, 26% back into your pocket. You can see that the biggest bang for your buck is when one spouse is earning substantially more than the other.
A big part of our financial planning service is to properly manage your taxes to maximize your long term wealth in situations like this.
Of course, many people have already come up with financial planning strategies to get around the old problems but those strategies take effort on the part of professionals and hence come with their own costs.
While we don’t know the exact text of the tax code changes yet because they are at least three years away (2016 at least), here are four things to think about to revise your plans now:
- On the surface this looks like a major opportunity to reduce taxes so it doesn’t seem likely that the government would do this without some other alterations to prevent the tax savings becoming too extreme.
- If you believe this is coming in the next three years you may want to use some income stall tactics between now and then to hold off until you can get your income taxed at a lower rate.
- There are a variety of structures that can reallocate income. If you are thinking about setting up something like this right now, you may conclude it is not worth the effort.
- Depending on the details of how the income is transferred in the new rules, there could be an increase in Canada Pension Plan contributions and hence an increase in the CPP you would collect in retirement. This may be another factor that alters your financial planning.
Many people will wait until the tax code changes are in place before they begin changing their strategy. What a shame. What a planning opportunity lost. If you want your plans to be on top of this opportunity now, contact us to see how we can help.
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