Other Year-End Planning
Review your family trust’s tax situation
Many individuals set up inter-vivos or family trusts to split income and better manage family finances. Inter-vivos trusts are taxed as individuals, but with all income subject to tax at the top marginal rate if the trust was set up after 1971. All inter-vivos trusts must have a December 31st year-end, and the tax return (called a T3 return) is due 90 days after year end—by March 31, 2008 for 2007.
A trust can deduct from its income any amounts that were paid or became payable to beneficiaries in the year. This income is then taxed in the hands of the beneficiaries to whom it was allocated. This is usually advisable where the beneficiaries are family members who will be taxed at lower marginal rates. Beginning January 1, 2000, minor children are taxed at top personal rates on certain types of income distributed from a trust. For more information on this income splitting tax, read our Income Splitting tax bulletin.
In the past, income of the trust could be taxed in the beneficiaries’ hands even though it was not paid or payable to them. If the trust had been structured to allow this type of tax planning, the trustees and the beneficiaries could jointly make a “preferred beneficiary election” (PBE) to have the income taxed in the beneficiaries’ hands even though it was retained in the trust. The ability to make PBEs is now only available for beneficiaries who are disabled.
Ensure that you review the tax status of your family trust with your BDO advisor before year-end to determine the amount of income earned in the trust and the way it will be taxed.
If a PBE is not available, you must ensure that the income is either paid or payable to the appropriate beneficiaries on or before December 31st. Otherwise, the income will be taxable in the trust at top marginal rates.
Another point to keep in mind is that certain trusts are deemed to dispose of capital property every 21 years. There are strategies which you can use to minimize the impact of these rules. Consult your BDO advisor.
Make tax instalments by the required due dates to avoid non-deductible interest and penalties
If your total tax exceeds your tax deducted at source by more than $2,000 ($1,200 in Québec) for 2008 and for either 2007 or 2006, you may be required to make quarterly tax instalments. The deadlines for instalments are the 15th of March, June, September and December. If you fail to make the payments, or pay less than the required minimum, you’ll be charged interest and possibly penalties. Interest and penalties on tax instalments are non-deductible.
Calculating the appropriate instalments can be difficult. Generally, you can base your payments on either the current or previous year’s tax, whichever is lower. However, the CRA now issues notices to taxpayers advising them of the amounts. The March and June amounts are based on the second preceding year, with the September and December amounts based on the previous year. The Ministère du Revenu du Québec also issues instalment notices to taxpayers. As long as the amounts in the notices are paid on time, instalment interest will not be charged.
If your income has increased over the last few years, the CRA’s method should be beneficial. However, the CRA may not always have the most current information and, in some situations, one of the other methods may be more advantageous for you. If you’re uncertain as to the amounts appearing on the notices, contact your BDO advisor for assistance in determining your appropriate instalment amounts.
Contribute to your RESP
You can start saving now for your children’s education by making contributions to a Registered Education Savings Plan (RESP). Earnings on RESP investments accumulate tax-free and are generally taxed in your child’s hands when withdrawn from their plan. With a lower marginal tax rate, your child should pay much less tax on the income than you would pay.
There were some recent changes in this area. Previously, you were allowed to contribute up to $4,000 annually to an RESP—with a cumulative lifetime contribution limit of $42,000. For contributions made after 2006, the $4,000 annual RESP contribution limit was eliminated and the lifetime RESP contribution limit was increased to $50,000. What this means is that you can contribute $50,000 immediately to an RESP if it makes sense in your particular circumstances.
When you contribute money to an RESP, the government will deposit an additional amount, equal to 20% of your contribution. The maximum Canada Education Savings Grant (CESG) each year has increased in 2007 to $500 (equal to 20% of a contribution of $2,500) from
$400. The lifetime CESG limit remains unchanged at $7,200. Also, higher CESG rates apply to certain contributions made by low and middle-income families.
If you fail to make a contribution in a year, the unused “CESG room” will be carried forward. But your ability to utilize CESG room in future years will be limited. Consequently, if you are considering an RESP contribution in the near future, you should try to make a contribution before year-end.
Another CESG rule is important to consider as part of your year-end tax planning. The CESG can be restricted during the years the beneficiary turns 16 and 17. A CESG will only be allowed if:
- contributions to all RESPs for the child have totaled at least $2,000 before the year the child turned 16, or
- contributions of at least $100 per year were made for the benefit of the child during any four years prior to the year the child turns 16.
Therefore, you may need to make an RESP contribution this year so that your child’s RESP is eligible for a CESG in future years.
For more information on RESPs, including the higher CESG rates for low and middle-income families, read our bulletin RESPs: Saving for your child’s education. For more details on the recent changes in this area, read our article “New RESP Enhancements” in our Tax Factor 2007-02 publication.
Next Section: Conclusion
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