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How can income splitting help cut my household tax bill?

The percentage of your income that goes to taxes rises as your income goes up

Using Ontario as an example, and examining just four of the tax brackets, if you earn up to $30,814 the tax rate on your last dollar of income -- your marginal tax rate -- is about 28%. For income between $30,815 and $53,798, the marginal tax rate is roughly 31%. On income between $61,630 and $63,504 the marginal rate is about 39%. For those earning over $100,001 about 46% is lost to taxes. Tax payable on two $30,000 incomes is about $2,020 less than on one $60,000 income.

The goal of income splitting is to balance the income of each member of your family. Your household tax bill will be reduced if you can move some income out of the hands of the person in the higher tax bracket and into the hands of the person in the lower tax bracket. Revenue Canada has several rules that limit the use of income splitting. Even so, there are a number of strategies you might be able to use to reduce your family's taxes.

Make sure you understand the rules. Keep careful records of all your transactions. Revenue Canada may want to look at how you moved money around - and might want to see if income was attributed to the correct person. You will likely need separate accounts for you and your spouse or other family members who are involved with your income splitting efforts.

Income splitting strategies include:

Maximizing the amount of money the lower-earning spouse has available for investing

The lower your marginal tax bracket, the lower the tax rate you will pay on any money you earn on your investments. If the lower-earning spouse buys a GIC, she/he might pay 28% tax on the interest it generates. This makes more sense than for the higher-earning spouse to buy the GIC, since she/he might pay 39% or 46% tax.

To optimize this strategy, you will have to boost the amount of money the lower-earning spouse has to invest. You can do that by having the higher-earning spouse pay as much of the on-going, non-tax-deductible living expenses as possible. Here are ways to do that:

  • The higher earning spouse pays the mortgage and grocery bills.
  • The higher-earning spouse can pay the lower-earning spouse's income tax bill.
  • If the lower-earning spouse has taken out a loan to use for investing, the higher earner can pay the interest costs. As long as you do not pay off any of the principal, none of the earnings on investments bought with the loan will be attributed to the higher earner.

These steps mean that more money is left in the hands of the lower earner. That extra money can be invested, and the tax rate on any earnings will be lower than if the higher earning partner makes the investments.

Set up a spousal RRSP

If it appears that you are going to have a higher retirement income than your spouse, consider starting a spousal RRSP. This will help balance out your retirement incomes, and help cut your overall tax bill.

Money invested in a spousal RRSP is owned by the spouse, not the person who makes the contribution. As long as you meet certain rules -- such as not taking the money out within three years of the last contribution - the money will be taxed in the name of the planholder when it is eventually withdrawn.

Consider splitting your CPP/QPP

You can have up to half of your CPP/QPP payments paid to your spouse. You must both be at least 60 years old. If you do this, the reverse also happens automatically. You receive the same percentage of your spouse's CPP/QPP. This assignment of benefits might not be an advantage if it affects your spousal tax credit claim. This won't work as an income splitting strategy, of course, if you are both eligible for the maximum CPP/QPP benefit.

Deposit Child Tax Benefit payments in the bank

If you receive Child Tax Benefit payments, deposit them into a bank or trust account in your child's name. If you do, they are not subject to the attribution rules. Your child will likely not have to pay tax on any earning for many years, as their income, if any, will likely be an insignificant amount. This is an easy way to help them build up a fund to pay for their post-secondary education.

Consider seeking professional tax and investment advice. Tax rules can be complicated. Investment and tax strategies suitable for some people may not be appropriate for your needs.