Before investing in the latest tax shelter or flow-through share deal to save
on taxes, you may want to review some of the basics: income deferral, income
spreading and income splitting.
The idea behind this strategy is straightforward: Postpone reporting income
today with a view to reporting it later. That way, your dollars remain with you
instead of the government. In addition, if you happen to be in a lower tax
bracket when the income is reported, savings may result.
The most common example of this is RRSP contributions, where a portion of
your current income is set aside today and then withdrawn and included in income
later, generally upon retirement. Not only is the tax deferred, but your
tax-sheltered contributions have the opportunity to grow much faster inside the
Since we face graduated tax brackets federally and in all provinces other
than Alberta (which has a flat provincial tax), the ability to spread income
receivable in one tax year over two or more years presents possible tax savings.
An example of income spreading that's starting to build some traction is to
partially deregister an RRSP before the mandatory conversion age of 69.
For example, let's say Ted, a 65-year-old retiree, has a $1-million RRSP that
continues to grow at approximately 7% per year. Even with no further
contributions, by age 70 the RRSP will have grown to over $1.4-million. A forced
minimum RRIF withdrawal at age 70 of 5% means an extra $70,000 of income. This
could force Ted into a higher tax bracket and jeopardize his entitlement to Old
Age Security (currently clawed back at income levels higher than $63,511).
By starting a process of early RRSP withdrawals at age 65 or earlier, Ted
could spread his RRSP income over a number of years and avoid hitting a higher
tax bracket. At the same time, he could maximize his OAS benefits and reduce his
RRSP balance, which means lower minimum withdrawals when he converts to an RRIF.
We have to wait a couple of weeks for the federal budget to reveal whether
we'll get broad-based income splitting in Canada, but there are already some
ways to legally split income. Income splitting involves the shifting of income
from a high-income individual to a low-income individual to take advantage of
the graduated tax-bracket system.
Spousal RRSPs are the obvious choice for income splitting upon retirement
between spouses and partners. Spousal loans are another way to get investment
income into the hands of a lowerincome spouse or partner, but are less
attractive today given the Canada Revenue Agency's prescribed rate of 5%.
If you invest on your kid's behalf, perhaps through an in-trust account, the
capital gains earned in the account can be taxed in your kids' hands, not yours.
- Jamie Golombek, CA, CPA, CFP, CLU, TEPis the vice-president, taxation and
estate planning, at AIM Trimark Investments in Toronto.