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New Family Income Splitting Lowers Tax Bills

27/11/2014


As the year draws to a close, tax planning begins to receive more attention. If you are considering income splitting as a means to reduce your tax burden, there are a number of factors to consider.

With our system of progressive income-tax rates for individual B.C. residents, there are nine personal income-tax brackets created by the federal and provincial tax rates. The highest marginal tax rate is at 45.8 per cent for taxable income greater than $150,000. Income splitting or shifting is a form of tax planning designed to shift income from a person paying tax at a high rate to a family member paying tax at a lower rate.

Although there are a number of legislative provisions that prevent achieving tax savings through income splitting or shifting, there are also a number of legitimate arrangements available to essentially split or shift income.

These include paying a reasonable salary to your spouse or children from your business income, use of a prescribed interest rate loan or pension income splitting. However, these arrangements require that the individual has a business, has an investment portfolio or is receiving eligible pension income, respectively.

For couples with children, there is now an additional option to minimize taxes. Last month the federal government announced, effective for 2014, the Family Tax Cut Credit, which is a new, non-refundable tax credit that can provide federal tax savings of up to $2,000 for married couples, including common-law partners.

To calculate the cut credit, the spouses first calculate the total taxes they would otherwise pay. They must then determine the combined total taxes on the basis the spouse with the higher income had notionally shifted 50 per cent of the difference in their incomes to a maximum amount of $50,000 to the spouse with the lower income. The difference in combined total taxes under these two determinations will equal the Family Tax Cut Credit one of the spouses will be able to claim.

For purposes of claiming the Family Tax Cut Credit for a year, the individual must be a Canadian resident at the end of the year and have a child under the age of 18 years who ordinarily resided with the individual or the spouse throughout the year.

Pension income splitting is another avenue for couples seeking to reduce their taxes. Many developed countries such as the U.S., Germany and France have some form of income splitting. In Canada, a form of income splitting was introduced in 2007, allowing Canadian individuals the ability to split up to 50 per cent of certain eligible pension income with their spouses. Of course, this pension income splitting is only beneficial to a segment of the Canadian taxpayer population — married couples where at least one receives certain eligible pension income.

The Family Tax Cut Credit is also only beneficial to a segment of the Canadian taxpayer population, that being two-parent single-family homes. In order to benefit from the credit, the two parents must be in different tax brackets.

There are other aspects of the Family Tax Cut Credit which makes it a limited form of income splitting, such as the fact it only has the ability to reduce federal income taxes payable. Unless B.C. follows suit, there is no provincial benefit.

Notwithstanding the arguments for — or criticisms of — the policy and politics behind the Family Tax Cut Credit, it’s a continued step in the right direction for adopting the concept of income splitting.

Hopefully, pension income splitting and the Family Tax Cut Credit will form the basis to accomplish the notion of tax fairness and expand the forms of income splitting to benefit other segments of the taxpayer population, such as low-income families and single parents, in the future.