South of the border, the heads of U.S. households can elect to file joint income tax returns, pooling their income and deductions. This option brings considerable tax savings to families in which one spouse has a significantly higher income than the other; their joint tax bracket will likely be lower than it would be otherwise.
Related: Tax Considerations For Single-Income Households
In Canada, we’ve no such option. Most spouses pool their resources to pay the bills, buy groceries and handle household expenses, but Canada treats couples like roommates living in the same house. That was how Prime Minister Stephen Harper described the tax laws at a press conference in March 2011. He said the situation was neither realistic nor fair.
Federal Promises:
Harper’s federal government announced a measure he said would provide significant tax relief to families with children younger than 18. The government’s plan to allow wage-earners to split up to $50,000 of household income would save eligible families an average of $1,300 in federal taxes a year, Harper said.
That’s a significant impact, and one that will be welcomed by families with one person earning considerably more income than the other. And the effect on single-income families will be even more pronounced.
The catch? The measure won’t take effect until the federal budget is balanced. That’s a moving target, but at the moment it looks like that will happen in 2015-2016.
In the meantime, there are some legitimate options for Canadian families looking to ease the tax burden of the biggest earner in the household, although the Canada Revenue Agency (CRA) is vigilant about making sure every rule is followed.
Income Splitting Tips:
Contributing to registered savings plans for other household members is a popular option for sharing income. For example, contributing to a spouse’s RRSP provides immediate tax relief, along with splitting the tax burden down the line when you begin to withdraw from it. However, your RRSP contribution limit applies to both plans; if your limit is $10,000, you’d have to split that amount between your plan and your spouse’s.
Registered Education Savings Plans (RESPs) are also an effective income splitting strategy. Your investment can grow tax-free and your children claim the income at a time when they have little or no money coming in. Meanwhile, the income you receive through the Child Tax Benefit and Universal Child Care Benefit can be funnelled into an account in your child’s name, and it will be treated as his or her income.
You can also contribute to a family member’s tax-free savings accounts (TFSA), up to that person’s contribution limit. There’s no immediate tax relief from the contributions, but the deposits grow tax-free in each account.
If you have your own business, you can hire your spouse or child. However, the wages are only deductible if they are “reasonable” and “documented.” All the normal paperwork and deductions for bringing on a new hire apply, you have to issue T4s, and the work actually has to be done.
Spousal loans are an increasingly popular income splitting strategy, with a low interest rate prescribed by the CRA. It’s back to the historically low 1% after a bump to 2% in the last quarter of 2013.
Related: Is Your Investment Loan Tax Deductible?
Spousal loans must be officially documented like any other loan, and the interest has to be paid annually before January 30. But the interest rate is locked in for the life of the loan, so the lower-income-earning spouse only has to make a 1% return on investment to pay the interest.
Interest charged is taxable for the lender, but interest paid is deductible for the person receiving the loan. Don’t miss the payment deadline, though, or future income from the investment will be charged as income for the lending spouse.
Pensioners have a number of income splitting options. If both partners are 60 or older, their Canada Pension Plan (CPP) income can be split depending on how long they have lived together and when they were contributing to the plan, which is helpful for reducing the income of the partner with the highest CPP entitlement.
Another advantage is that couples only need to apply for this once, whereas they must apply every year to split Registered Retirement Investment Fund (RRIF) and RRSP annuity income.
Since 2006, couples have been able to split income from company pension plans. Unlike RRIF and RRSP splitting, which can only begin at age 65, couples can start splitting company pension income at any time.
With the ability to split pension income, you may be wondering if a spousal RRSP is really necessary. Most tax professionals would suggest continuing with the spousal RRSP, particularly for those looking to retire before 65.
If a spousal plan is in place and a couple wants to convert it into a RRIF, the income from it will be included on the spouse’s return. If only one partner has a plan, the income cannot be split under the pension-income splitting provisions until he or she turns 65.
Related: How Being A Landlord Can Pay Dividends
In addition, spouses may also feel more secure with their own RRSP. It is their money. With the pension income splitting provisions, all that is happening is that the higher-income spouse is unloading income on their return.
So, if you and your significant other want to split the tax bill before the feds officially enact income sharing, you may want to talk to your local tax professional to choose the strategies that work for you and do not attract attention from the CRA.
This information was provided by H&R Block.
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