How can I avoid income tax! The answer is simple, "you can't!"
However, you can reduce the amount of tax you pay and keep more of your after tax dollars. As an example, consider the average family which spends $800 annually on health care, such as prescription drugs, chiropractic and physiotherapy. The following scenarios detail the significant impact of income tax on health care expenses.
Scenario one:
In order for you to pay the $800 in expenses, you must earn $1,333 in gross income, pay taxes (assume 40 per cent marginal tax rate) and the net $800 would be used to pay the bill.
Scenario two:
Let's assume you have a Group Insurance Plan in which the claims are submitted and the eligible expenses are reimbursed. Simply put, you pay the $800 health care bill and the plan pays you back $800. Your cost is the premiums paid into the plan, which are deductable as a business expense for the company. Let's review - you pay $800 ($1,333 gross income) in medical bills OR you pay Group Insurance Plan premiums (which are business deductions). Which would you prefer to pay?
Another legal and very effective way of reducing income taxes is utilizing "spousal RRSPs." A spousal RRSP is a long-term income splitting strategy that shifts income to the spouse with the lower tax rate. A taxpayer may split the RRSP deduction limit for the year between contributions to the taxpayer's own RRSP for his/her spouse. In this way, the taxpayer can create an RRSP in the other spouse's name, even though that spouse may have little or no earned income. Income tax is payable based on the amount of income received in a calendar year. When planning for retirement, the key is to determine the level of income required and how this can be accommodated in the most tax effective manner.
As an example, consider a retired couple that needs $60,000 annual income.
Scenario A:
One spouse withdraws $60,000 from his/her RRSP which will result in income tax at the marginal tax rate.
Scenario B:
Each spouse withdraws $30,000, in which both spouses now receive their basic personal exemption and the income received will result in being taxed at the lowest marginal rate. Why pay more tax than you have to?
Note: Revenue Canada has a three year attribution rule which states that spousal contributions must not be withdrawn by the spouse in the year of contribution or two years following. Should this occur, the income will then be attributed to the contributor.
Doug Buss
CLU, CPCA, CFP
YourStyle Financial
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