It's middle of November and tax planning time has come. Why you may ask? Most items in the Income Tax Act are to be completed on a calendar basis. So December 31, 2020 become a key date to watch. However, things in a pandemic are a bit different.
December 2, 2020, is a key date this year!
CERB is a taxable benefit of $2,000 provided over a four-week period for eligible workers who have stopped working, or whose work hours have been reduced due to COVID-19.
The benefit applies to the period between March 15, 2020 and October 3, 2020. Individuals can apply no later than December 2, 2020 to receive payments retroactive to within that period.
Donations -Charity and Political to be completed by December 31, 2020
Keep these points in mind about charitable donations:
you can donate up to 75% of your net income in any tax year – up to 100% in the year of death and the previous year.
charitable donations are not ‘deductible,’ rather they create a tax credit used to reduce total tax payable.
charitable donation credits are ‘non-refundable’, meaning they can only be used to reduce taxes payable, but you may carry forward donations up to 5 years if you can’t or don’t want to use them in the current year.
the first $200 of charitable donations attracts a smaller credit than the amount in excess of $200, so it usually makes sense to combine charitable donations on one spouse’s return and make full use of the higher-rate credits in your household.
Keep these points in mind about political donations:
political donations carry extra tax credits but are usually non-refundable and can’t be carried forward. If you can’t use them in the year, they are lost. (Ontario and Nunavut have refundable provincial credits.)
unlike charitable donations, the first $400 of donations (federally) attracts the highest credit, with the rate declining after that. There are maximum donation limits provincially and federally.
it’s trickier to optimize political donations in a household. You can’t split a receipt between spouses and it’s usually better to have two credits at the highest level if you each have taxable income, so make separate donations in each name to maximize the first level credits.
Donate securities to charity.
Consider donating before year-end if you can. The tax relief can be helpful in offsetting taxes or other income. And you’ll do well to donate eligible securities that have appreciated in value since our tax law will eliminate the taxable capital gain on these securities, in addition to providing the tax relief for the donation itself – a double benefit when doing this directly to a charity.
Optimizing Your Medical Expense Tax Credit
The medical expense tax credit is unique in that you can choose to claim expenses from the previous year, so long as they were not claimed on that year’s income tax return.
More specifically, you can choose any 12-month period ending anytime in 2020 to claim your medical expenses.
This can be beneficial if you had a costly medical expense in 2019 that did not push you over your threshold, as well as costly medical expenses in 2020.
Combining Medical Expenses
It is important to note that all eligible medical expenses incurred by the taxpayer, their spouse, their dependent children and some other dependent relatives can be added together and claimed by one family member to further optimize the amount claimable. In most situations, the claim can be further optimized by having the lower income spouse claim the expenses, as they will have a smaller threshold.
Payment by December 31, 2020
Medical expenses are tax deductible as paid. Thus, if you have a high dental invoice in early January 2020 for $5,000, but decide to pay the dentist over time say monthly at $250 then your medical deduction will be 12 X $250 or $3,000 in 2020. The balance in the amount of $2,000 would be paid and deductible in 2021 in this example. Since medical tax credits are reduced by 3% of your annual net income, this will then have two deductions of 3% of your net income against this medical cost and lowers your claim and refund. Therefore, if you can pay all your medical in the same year it actually has a tax savings element to you.
Vitamins and Supplements -Not Eligible Medical Expenses
While the medical expenses tax credit applies to a wide range of different expenses, vitamins and supplements generally do not qualify. The provision in the Canadian Income Tax Act that allows this tax credit, subsection 118.2(2), requires that drugs, medicament and other preparations or substances meet 3 requirements.
-First, they must be made or sold for the purpose of diagnosing or treating a disease or disorder or its symptoms or for restoring or correcting an organic function.
-Second, it must only be lawfully acquirable if prescribed by a medical practitioner or dentist. -Third, its purchase must be one which is recorded by a pharmacist.
While vitamins and supplements might meet the first requirement, they generally fail to meet the second and third requirements. Doctors and other medical practitioners will sometimes prescribe vitamins and supplements, however it is vital to note that the second requirement is that the substance must only be legally acquirable with a prescription. Even when prescribed, most vitamins and supplements can also be purchased without prescriptions and thus do not qualify. Furthermore, off the shelf vitamins and supplements purchases do not tend to be recorded by pharmacists. That said, where a vitamin or supplement does meet the 3 requirements, then it would likely qualify for the medical expenses tax credit.
Tax Loss Selling
Tax loss selling is essentially selling stocks or mutual funds that have not performed well and locking in the capital loss on or before Monday December 28, 2020 so that it counts for tax purposes in 2020. These trades are normally done to offset capital gains in an account. Smart investors don't like to pay tax on realized gains when they have unrealized losses. Hence locking in the losses offsets the gains and lowers the taxes on your investments for that particular year.
As these transactions take a few days to process so don't wait until December 31, 2020 deadline and ensure they are completed at least 3 business days ahead of the deadline which depends on which stock exchange you're trading on. Please note that it could be as low as 2 days ahead of the deadline.
Under what circumstances would you want to do some tax loss selling?
If you want to sell an investment with significant capital gains, you would look through all your investments to see if there are opportunities to sell investments at a loss.
As a tax deferral strategy. With tax losses, you can apply those losses back three years or carry them forward indefinitely. In other words, you might trigger a loss now because you are planning to sell that property next year or the year after. If you wait to sell the investment that is at a loss, it may rebound back by that time and there will be no opportunity offset the gains.
Get a refund for a previous year. Remember, you can apply capital losses back three years. Let’s say you sold a property last year for big gains and paid the tax. This year, you could sell other investments at a loss and apply them back to last year and get some of that tax you paid back into your pockets.
Getting rid of a real loser. Maybe you have an investment in your portfolio that is a real loser. Maybe it’s time to just get on and put the money somewhere else that has more opportunity to make back the losses. In that case, sell the investment and hope that you can use the loss in the future for another investment that does better.
If you have any capital losses in a year they should be reflected within your tax return that year. You may not have any capital gains in the year or go forward, but in the year of your passing away these capital losses can be claimed against regular income. So eventually, a value will be received for the capital losses tracked on the system with Canada Revenue Agency.
Final Contribution to RRSP and convert to RRIF By December 31, 2020 if your Age 71
Please make your final contributions to your RRSP if you are turning 71 during 2020. You will also have to wind up your RRSP by December 31, 2020 into a RRIF. I would recommend if you have not already converted to a RRIF and you are born in 1949 that you do this as soon as possible. If this is is missed, significant tax penalties arise.
Delay RRSP Withdrawals Under the HBP or LLP
You can withdraw funds from an RRSP without tax under the Home Buyer’s Plan (up to $35,000 for first-time home buyers) or the Lifelong Learning Plan (up to $20,000 for post-secondary education). With each plan, you must repay the funds in future annual installments, based on the year in which funds were withdrawn. If you are contemplating withdrawing RRSP funds under one of these plans, you can delay repayment by one year if you withdraw funds early in 2021, rather than late in 2020.
Make TFSA Contributions
The TFSA dollar limit for 2020 is $6,000 but there is no deadline for making a TFSA contribution. If you have been at least 18 years old and resident in Canada since 2009, you can contribute up to $69,500 in 2020 if you haven’t previously contributed to a TFSA.
Take TFSA Withdrawals on or Before December 31, 2020
If you withdraw funds from a TFSA, an equivalent amount of TFSA contribution room will be reinstated in the following calendar year on January 1, assuming the withdrawal was not made to correct an over-contribution. Be careful, however, because if you withdraw funds from a TFSA and then re-contribute in the same year without having the necessary contribution room, over contribution penalties can result at 1% per month and a form is due March 31, 2021 which is complicated to prepare.
If you wish to transfer funds or securities from one TFSA to another, you should do so by way of a direct transfer, rather than a withdrawal and re-contribution, to avoid an over contribution problem.
Again, if you are planning a TFSA withdrawal in early 2021, consider withdrawing the funds by December 31, 2020, so you would not have to wait until 2022 to re-contribute that amount. By withdrawing in December 2020, the TFSA room comes back to you on January 1, 2021.
Make RESP Contributions by December 31, 2020
RESPs allow for tax-efficient savings for children's post-secondary education. The federal government provides a Canada Education Savings Grant (CESG) equal to 20% of the first $2,500 of annual RESP contributions per child or $500 annually. While unused CESG room is carried forward to the year the beneficiary turns 17, there are a couple of situations in which it may be beneficial to make an RESP contribution by December 31.
Each beneficiary who has unused CESG carry-forward room can receive up to $1,000 of CESGs annually, with a $7,200 lifetime limit, up to and including the year in which the beneficiary turns 17. If enhanced catch-up contributions of $5,000 (i.e. $2,500 x 2) are made for just over seven years, the maximum total CESGs of $7,200 will be obtained. If you have less than seven years before your grandchild or child turns 17 and haven’t maximized RESP contributions, consider making a contribution by December 31, 2020.
Also, if your grandchild or child turned 15 this year and has never been a beneficiary of an RESP, no CESG can be claimed in future years unless at least $2,000 is contributed to an RESP by the end of the year December 31, 2020. Consider making your contribution by December 31 to receive the current year’s CESG and create CESG eligibility for 2021 and 2022.
Contribute to a Registered Disability Savings Plan (RDSP) by December 31, 2020
RDSPs are tax-deferred savings plans open to Canadian residents eligible for the Disability Tax Credit, their parents and other eligible contributors. Up to $200,000 can be contributed to the plan until the beneficiary turns 59, with no annual contribution limits. While RDSP contributions are not tax deductible, all earnings and growth accrue on a tax-deferred basis.
Federal government assistance in the form of Canada Disability Savings Grants (CDSGs), which are based on contributions, and Canada Disability Savings Bonds (CDSBs) may be deposited directly into the plan up until the year the beneficiary turns 49. The government may contribute up to a maximum of $3,500 CDSG and $1,000 CDSB per year of eligibility, depending on the net income of the beneficiary's family.
Eligible investors may wish to contribute to an RDSP before December 31 to get this year’s assistance. There is a 10-year carryforward of CDSG and CDSB entitlements. RDSP holders with shortened life expectancy can withdraw up to $10,000 annually from their RDSPs without repaying grants and bonds. A special election must be filed with Canada Revenue Agency by December 31, 2020 to make a withdrawal in 2020
Steps to Take by December 31, 2020 for a Business Owner
Salary
Consider withdrawing sufficient salary from a private corporation by December 31, 2020 to maximize contributions to RRSPs and TFSAs. RRSPs and TFSAs may offer benefits beyond those available with corporate investments,
Receiving salary of at least $154,611 by December 31, 2020 will allow the maximum RRSP contribution of $27,830 in 2021. Reasonable salaries may also be paid to family members who work in the business to allow them to make contributions to RRSPs and TFSAs.
Investments and Corporate Income
Consider a “buy and hold” strategy to defer capital gains if a corporation is approaching the $50,000 AAII threshold in 2020.
For every $1 of passive income earned over the $50,000 threshold by an associated group of companies, the SBD limit will be reduced by $5.
Once passive investment income earned by the associated group exceeds $150,000, the ability to claim SBD is eliminated for the entire group ($150,000-$50,000 exemption) X 5=$500,000 Small business deduction. The application of these rules would results in a increase to the amount of corporate tax paid by the business.
For the purpose of determining the reduction of the $500,000 small business limit of a CCPC, passive income will be measured by a new concept called "adjusted aggregate investment income" (AAII), which is "aggregate investment income" (AII) with a few adjustments.
"AII" consists of the following:
Interest
Taxable Capital Gains, net of allowable capital losses
Passive rental income
Passive foreign income
Losses from property
"AAII" is AII plus the following adjustments:
Exclusions:
Capital gains and losses from the disposition of active assets.
The corporation cannot deduct any net capital losses from other taxation years.
No deduction for charitable donations.
No deduction for foreign accrual taxes.
Inclusions:
Dividends are included (except for dividends received from connected corporations).
All income from a "specified investment business" is included
Income from savings in a life insurance policy that is not an exempt policy is included
Going forward, it is crucial for associated corporate groups to monitor their levels of passive income from year to year, and plan ahead with regard to which years to realize capital gains and losses for example. It is the prior year's passive income level which impacts the current year business limit grind. The result in most cases in Ontario is corporate tax applied at a rate of 26.5% (15% Federal and 11.5% Ontario) versus 12.3% to the first $500,000 of active business income in 2020, which can make a huge impact on many small businesses.
Also, consider whether an Individual Pension Plan or corporately-owned exempt life insurance may be appropriate if AAII exceeds $50,000, as income earned within these plans will not be treated as AAII.
AAII includes income net of expenses, for example, interest expense incurred to earn investment income would reduce such income in determining if AAII exceeds the $50,000 threshold. Consider what expenses are already, or could be incurred in the CCPC to reduce AAII. In addition to interest, other examples of such expenses could be investment counsel fees, and a salary paid to the owner-manager, as long as that amount is reasonable.
If you can avoid earning investment income in your corporation, you can avoid the clawback of the small business limit. An exempt life insurance policy or an Individual Pension Plan (IPP) could allow you do to this if passive investments are put into these type of plans – but taxpayers should consider whether these plans make sense otherwise, before doing it just to avoid these rules.
As you can see, end of December is fairly critical time of year and a few items remain in 2021.
In 2021, a few things remain to be completed, but the list is fairly short as follows;
January, 2021
January 15th—Deadline for an employee to inform their employer of any deferred stock options benefits related to a stock option exercise from previous year.
January 30th—Deadline to pay interest for previous year on a family loan at prescribed interest rates.
Tax strategies for January:
Consider making a maximum lump-sum Registered Retirement Savings Plan (RRSP) contribution for current year.
Consider making a lifetime over-contribution to your RRSP.
March, 2021
March 1st—RRSP contribution deadline. If it’s a leap year, the deadline is February 29. This deadline applies for regular RRSP contributions, retiring allowance RRSP contributions, or Home Buyers’ Plan or Lifelong Learning Plan RRSP repayments.
March 1st—Labour-Sponsored Fund contribution deadline. If it’s a leap year, the deadline is February 29.
March 15th—1st quarterly Canadian tax installment is due.
March 31st—Inter-vivos/Living Trust tax return deadline. If it is a leap year, the deadline is March 30th.
Hope you enjoyed this long winded tax planning information. I hope it saves you money. If you need some help, please call me at 905-898-3355 or send an email to peter@taxhome.net
NOTICE TO READERS
This tax planning article has been prepared for educational purposes only on November 14, 2020.
Peter Wiesner CPA, CA, Licensed Public Accountant nor anyone involved in the preparation or distribution of this tax planning tips any contractual, tortuous or other form of liability for its contents or for any consequences arising from its use.
Please contact Peter Wiesner CPA, CA at 905-898-3355 before implementing any tax strategies or indirect advice resulting from this information.
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