KPMG: Year-end Tips for Reducing Your 2010 Personal Tax Bill

Nov 25, 2010 | Corporate Member News

As another year draws to a close, many Canadians are looking for ways to improve their financial well-being. As a part of your personal financial plan, you should consider steps that could help you save on your 2010 personal income taxes. You may want to keep the following tax planning tips and deadlines in mind over the next few weeks as you review your tax situation for 2010.

Tax planning ideas 

Ideas discussed in this publication include:

  • Set up a Tax-Free Savings Account (TFSA)
  • Split income by locking in family loans at low interest rates
  • Consider tax loss selling
  • Make payments eligible for 2010 savings on time
  • Wind up your RRSP if you’re 71
  • Review residence of your family trust
  • Time your out-of-province move
  • Employees’ company cars — Drive down your taxable benefit
  • Play catch-up on deficient instalments

Set up a Tax-Free Savings Account
If you haven’t already set up a TFSA, you may want to do so because this tax-assisted savings account can offer you and your family the opportunity to earn a significant amount of investment income tax-free. You can contribute up to $5,000 per year to your TFSA (starting in 2009), as long as you are 18 or older and resident in Canada. If you didn’t contribute in 2009, you can contribute $10,000 for 2010. To take full advantage of the potential tax savings, make your $5,000 contribution for 2011 as soon as possible.

Though your contributions will not be tax-deductible, the investment income and capital gains earned on investments in the account will be tax-free. You can also give funds to your spouse to establish his or her own TFSA, and the attribution rules that would normally tax the investment income in your hands will not apply.

Watch the timing of your TFSA withdrawals and contributions
If you have set up a TFSA and you’re planning a withdrawal, consider doing so before the end of 2010 rather than early 2011, as amounts withdrawn are not added to your contribution room until the beginning of the following year after the withdrawal.

For example, if you contributed $5,000 in January 2010 and you decide to withdraw $4,000 in December 2010 so that you have only $1,000 remaining in your TFSA, you will not be able to re-contribute the $4,000 you withdrew until 2011. At that time, you will be able to re-contribute the $4,000 withdrawal along with your new $5,000 contribution limit for 2011, for a total of $9,000.

If, on the other hand, you withdraw the $4,000 in January 2011, you will have to wait until 2012 to re-contribute this amount.

TFSA is not a like a regular bank account
In 2009, many taxpayers misunderstood these rules for timing TFSA contributions and withdrawals and used their TFSAs like regular bank accounts (i.e., contributing and withdrawing throughout the year). As a result, many of these taxpayers had overcontributed to their TFSAs even if the account’s balance never exceeded the $5,000 contribution limit for the year. Many taxpayers received letters from the CRA proposing to assess penalties for these overcontributions, although the CRA said it would waive taxes on excess contributions where appropriate.

It’s important to pay attention to the timing of your TFSA contributions and withdrawals throughout the year so you don’t inadvertently exceed the contribution limit. If you want to transfer funds in your TFSA from one financial institution to another you can do so within the same year you contributed the funds as long as the transfer is a qualifying direct transfer between the two financial institutions.

In addition to the 1% penalty on overcontribution to a TFSA, income attributed to deliberate overcontributions to a TFSA is subject to a 100% tax. The same rules apply to income from prohibited investments in a TFSA.

Split income by locking in low-interest family loans
The Canada Revenue Agency’s (CRA) current historically low prescribed interest rate creates an opportunity to enter into income-splitting loan arrangements with family members. The CRA’s prescribed rate of interest is 1% for the fourth quarter of 2010, so now may be a good time to lock in a family loan at this rate and achieve future tax savings.

Based on our projections, the CRA’s prescribed rate should remain the same in the first quarter of 2011, but you may want to act soon to begin taking advantage of the low 1% rate.

Ordinarily, if you lend funds to your spouse, the attribution rules will apply and any income earned on the lent funds will be taxed in your hands. However, if the loan is governed by a written agreement that stipulates the terms of repayment and an interest rate at least equal to the CRA’s prescribed interest rate at that time, then the attribution rules will not apply, provided your spouse or other family member makes annual interest payments to you on the loan by the following January 30 of each year.

By locking in a family loan at the 1% rate and by having the family member invest the lent funds at a higher rate, you can shift investment income earned on the lent funds to your spouse or another family member who has little or no other income and thus pays little or no tax. If properly implemented, you can effectively arrange for all investment income over 1% to be taxed at the lower-income-earning family member’s tax rate indefinitely.

Consider tax loss selling
If you own investments with unrealized losses, consider selling them before year-end to realize the loss and apply it against your capital gains realized during the year or in a prior year. You may benefit from this technique, known as tax loss selling, if you realized capital gains in 2010 or you reported taxable capital gains in one or more of the last three years.

The more capital gains tax you paid in the last three years, the more you should consider the tax advantages of tax loss selling before the end of the year so you can carry back the losses to offset those gains (bearing in mind that tax considerations are only one of many factors that should influence your investment decisions).

If you engage in tax loss selling, make sure you don’t run afoul of the special tax rules designed to stop the artificial creation of tax losses. For example, a capital loss will be disallowed if you own or buy a similar property 30 days before or after the sale and if you, your spouse or a corporation you control still holds that similar property 30 days after the tax loss sale.

Remember that most stock and bond transactions normally “settle” three business days after the trade is entered. Because weekends and public holidays may affect the determination of “business days”, if you intend to do any last-minute 2010 trades, consider completing all trades before Christmas and be sure to confirm the settlement date with your broker.

Make payments eligible for 2010 tax savings on time
If you plan to make payments that may be eligible for tax deductions or credits on your 2010 income tax return, keep in mind that you’ll need to make many of these payments by December 31, 2010. Other payments due during the first 60 days of 2011 may also be eligible for 2010 tax savings.

To benefit from a tax deduction, credit or deferral for the following amounts on your 2010 personal tax return, be sure to pay the amounts or take the required action on time.

Payments due by December 31, 2010  

  • Charitable gifts  
  • Medical expenses  
  • Union and professional membership dues 
  • Investment counsel fees, interest and other investment expenses  
  • Certain child and spousal support payments
  • Political contributions  
  • Deductible legal fees 
  • Interest on student loans 
  • Contributions to your RRSP if you turned 71 during 2010 (you will also have to wind up your RRSP by this date—see below) 
  • Payments eligible for the children’s fitness tax credit 

Payments due by January 30, 2011 

  • Any interest owed on 2010 intra-family loans (see above) 
  • Any interest payable by you on loans from your employer, to reduce your taxable benefit 

Payments due by February 14, 2011 

  • Reimbursement of personal car expenses to your employer to reduce your taxable operating benefit from an employer-provided automobile (see below)  

Payments due by March 1, 2011

  • Deductible contributions to your own RRSP or a spousal RRSP; keep in mind that you can contribute a maximum of $22,000 for 2010 (up from $21,000 in 2009), subject to your available contribution room 
  • Contributions to federal or provincial labour-sponsored venture capital corporations
  • RRSP repayments under a Home Buyers’ Plan or a Lifelong Learning Plan. 

Wind up your RRSP if you’re 71
If you turn 71 and must wind up your RRSP in 2010, remember that you only have until December 31, 2010 (and not March 1, 2011) to make a contribution to your RRSP for 2010. You can continue making deductible contributions to a spousal RRSP until the end of the year in which your spouse turns 71, as long as you have earned income in the previous year or unused RRSP contribution room carried forward from prior years. 

Review residence of your family trust
If you have a family trust, the end of the year is a good time to review your trust arrangements to make sure your documentation is up-to-date and you’ve taken any steps possible to save tax for the year.  

If your family trust is set up in another country or a province other than the one where you reside, it’s especially important this year to review its arrangements in light of a recent court decision that indicates a change in the approach to determining where a trust is resident for Canadian tax purposes. For details, see KPMG’s TaxNewsFlash-Canada, “Trusts — Time for a Residency Review and Year-End Tax Planning”, dated November 22, 2010. 

Check timing on out-of-province move
If you’re planning to move to another province at the end of the year, remember that your province of residence on December 31, 2010 will generally be the province to which you pay your taxes for all of 2010. If you’re moving to a higher-tax province, you may want to delay your move until the new year, if possible. If you’re moving to a lower-tax province, you may want to take up residence there before December 31. 

Employees with company cars — Drive down your taxable benefit
If you drive an automobile provided by your employer, your taxable benefit for your use of the car may be reduced for 2010. The taxable benefit consists of two elements: the standby charge and the operating cost benefit. The standby charge may be reduced if you can show that: 

  • Your business use of the car is more than 50% of the kilometres driven, and
  • Your personal use of the car is less than 1,667 kilometres per month, or 20,000 kilometres per year. 

If you meet both conditions, your employer can reduce your reported standby charge by a percentage equal to your personal-use kilometres driven divided by 20,000 (assuming the car was available to you for the full 12 months). The benefit may be reduced by any reimbursement you made in 2010 for use of the car other than the portion relating to the operating cost.

The taxable benefit for operating costs is 24¢ per kilometre of personal use for 2010. If your employer pays any operating costs during the year for your personal use of an employer-provided car and you don’t fully reimburse your employer by the following February 14, the 24¢ rate applies (less any partial reimbursement that you pay your employer by this date). 

An alternative calculation is available for the operating cost benefit where your business use of the car exceeds 50%. If you notify your employer in writing by December 31, 2010 that you wish to use this option, the operating cost benefit will be a flat 50% of the standby charge. 

Play catch-up on deficient instalments
If you are required to pay 2010 personal tax instalments, remember that your final instalment must be paid by December 15, 2010 to avoid interest and penalty charges. If you’re behind on your 2010 instalments, you may be able to reduce or eliminate non-deductible interest and penalties by making a “catch-up” payment now. The “contra-interest” rules will allow the catch-up payment to earn interest at the same prescribed rate as the interest accruing on your late or insufficient instalment payments, effectively offsetting non-deductible interest charges.

We Can Help
Tax planning should be an important part of your efforts to get the most out of your financial resources. Though you only have to file your tax return once a year, it’s the tax planning steps you take throughout the year that will help you save money at tax time. KPMG’s Tax Planning for You and Your Family can help you make tax planning a year-round activity. The 2011 edition is now available in bookstores across Canada or directly from Carswell Thomson Professional Publishing at 1-800-387-5351. 

Your KPMG adviser can help you review your personal or business tax situation and determine what steps you can take before the year-end and early in the new year to minimize the taxes you’ll pay for 2010. For details, contact your KPMG adviser. 

Information is current to November 19, 2010. The information contained in this TaxNewsFlash-Canada is of a general nature and is not intended to address the circumstances of any particular individual or entity. Although we endeavour to provide accurate and timely information, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future. No one should act upon such information without appropriate professional advice after a thorough examination of the particular situation. For more information, contact KPMG’s National Tax Centre at 416.777.8500. 

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