Though there are no universal answers, there are many factors to consider when determining tax advice
Heading into tax season, there’s some low hanging fruit to direct your clients to. For example, the Canadian Revenue Agency announced in August 2022 that it currently has 8.9 million uncashed cheques totalling $1.4 billion.
“I was quite shocked by the numbers,” says Yannick Lemay, tax training specialist at H&R Block. “There are different benefits – it could be the GST credit or the Climate Action Incentive, for example — but it just takes a second to verify that information.”
There are also some new benefits in 2023 that aren’t directly on a tax return, but people need to have filed their return to access them. For example, the Canada Dental Benefit for children under 12 years old, which is claimed on the CRA website. And, Lemay notes, tax specialists are always telling people the same thing because it’s very important: file your taxes on time. He often hears from clients that they don’t owe any taxes because they paid in instalments over the year, or have contributed to their RRSP, and they’ll wait until they’re less busy to file but penalties for tardy filing aren’t limited to the taxes you pay, if any. It can also impact other areas of the return such as tax elections.
“If, for example, you met a new spouse, moved in with them, and began renting your home, from a tax perspective it’s called a change of views because that residence is now being used to earn income and in that situation, there are tax elections available,” Lemay says. “But if the taxes are filed late, that election will also be late and you can incur penalties on that even if you don’t owe any taxes — and there are even some elections that aren’t available at all if you file late. Even if you don’t owe, even if you’re not in a very complex situation, file on time.”
RRSPs and TFSAs
But straightforward answers are by far the exception rather than the rule when it comes to tax time decisions. A good example of this is how much to contribute and when to RRSPs and TFSAs. Often confused due to their similar features, the big difference is the timing of the tax savings. RRSP contributions garner an immediate deduction on most people’s tax return whereas with the TFSA, the savings come in the long run because you never pay taxes on your withdrawal or the income you earn on those contributions.
The reason for the caveat that most people will see tax savings in the year they contribute to their RRSP is that some people don’t have a high taxable income, even if they have a high net worth, Lemay says. RRSP contributions reduce taxable income so the tax savings will be in proportion to the tax bracket they’re in. If they’re in the first tax bracket, the tax savings on RRSP contributions is based on the first tax rate. If you have a higher income, the tax savings is larger on that same contribution because you pay taxes at a higher rate and the deduction you get is based on that.
Ultimately, it’s about where your client is in life that will dictate the best way to leverage either or both vehicles. Is the client looking to retire in two years, or 10? Do they have a pension plan with their employer?
“There are different factors to keep in mind but generally with tax returns, contributing to an RRSP especially for families can bring many benefits beyond the savings from the tax deduction,” Lemay says. “Having a lower net income means other credits included in the tax return will be higher, for example you’ll get more on child benefits or from the medical expense credit.”
Lemay also fields many questions from clients about TSFA contribution limits. Though it’s common knowledge everyone gets their new limit for the year in January, it’s less well known that you can also contribute the amount of withdrawals you did the year before.
“Even if you withdrew $1M from the TFSA in 2022, you’ll be able to contribute that $1M again in 2023, taking into account you never overcontributed in the past,” he says. “There’s no limit to that.”
Dividends or wages?
When determining if it’s more advantageous for business owner clients to pay themselves a wage or via dividends, again there are many individual factors to consider. Dividends provide a tax credit, and usually — though again, there are potential exceptions — the person pays less personal taxes than if they’re paid wages. However, some people might have other tax credits that lower their taxes and in the end what they pay would be similar.
Another consideration is if the client’s business is incorporated. If so, the corporation is also paying taxes and those taxes differ depending on if it pays out dividends or wages. Wages are tax deductible but dividends are not, so if the corporation is paying wages they’ll typically have a lower taxable income — but again, this isn’t true across the board, Lemay notes, as the corporation could have a tax credit and pay less taxes that year, for example.
The final factor is the personal tax return of the individual. There are some credits — such as child care expenses — that are calculated on earned income, and wages are considered earned income while dividends are not.
“If your sole income is dividends from a corporation, you will not be able to deduct those expenses on your tax return. You need wages from your corporation to absorb the deduction, and you want to benefit from it: it reduces your taxable income so you save taxes on the whole amount. Sometimes the answer is a mix of both: the corporation can pay some dividends and the rest in wages.”
This year there are also some “interesting tax changes” for individuals in business that are worth mentioning, two of which apply whether the person is incorporated or self employed. The limits for the deduction on vehicle expenses were increased this year — a very welcome change, Lemay says, as it’s the first increase it’s seen in many years — and immediate expensing for capital property purchased over the year was also introduced on a temporary basis. For the latter, business owners can deduct 100% of the cost instead of decreasing that cost over many years as was the case before. Though this change will definitely bring tax savings, once again it’s pertinent to keep in mind the exceptions: for example, buildings are not part of the measure, but it applies to equipment such as phones, computers, or cars bought for the company.
Sourcing tax saving opportunities is a fact-specific venture: you’ve got to be aware of any changes or new credits and dig into the details to really understand your client’s specific situation and determine where the greatest benefits are for them, Lemay says, summing up that “as is often the case with taxes, there is no universal response.”