If you carry on a business as a corporation you may want to consider using a holding company to own your operating company. The holding company structure offers tax deferral opportunities and can help insulate your accumulated wealth from creditors or be used to avoid the U.S. estate tax.

The Basics of A HoldCo

In its basic format, a holding company owns the shares of your operating company. The operating company pays dividends tax-free to the holding company. If the operating company needs cash, the holding company can loan funds back (the loan should be secured provided by a General Security Arrangement – GSA).

Holding Company Benefits

Creditor Protection – You may be concerned that your operating company’s assets may be at risk from a real or frivolous law suit or that they may be subject to seizure from creditors.

By transferring the shares of the operating company to the holding company, the operating company can pay tax-free dividends to the holding company and eliminate access to these funds. Be sure to communicate with your bank beforehand!

Deferral & Investment – If the operating company has several shareholders, it may pay dividends at times or in amounts that are not convenient for you.

Have the operating company pay dividends to the holding company, where you can decide when and how much will be paid.

This also allows you to leave funds in the holding company for investment and defer the tax on the dividends paid.

Income Splitting – When the operating company has several shareholders you can transfer your shares to your holding company and have your holding company issues shares to your family members. The dividends or salaries paid from the holding company can be an effective way to split income and reduce your overall tax bill.

Estate Freeze –An estate freeze is a transaction that fixed the value of your estate and transfers the future growth to your heirs. By using a holding company, you may want to consider placing investments in the corporation and undergo a freeze transaction.

U.S. Estate Tax – If you own U.S. property (shares, real estate etc.), you may be subject to the U.S. estate tax if your holdings are significant enough. By placing U.S. “situs” property in a holding company, you can avoid the U.S. estate tax on death.

The Downside To Holding Companies

There are some things you may want to think about when considering the use of a holding company.

If you have access to the capital gains deduction, using a holding company may limit your ability to claim that generous tax break.

There may be no tax benefit of moving investments into your corporation because corporate investment income does not receive any reduced rates like an operating company does.

Finally, if you move personal property to a corporation (i.e. vacation property), you may incur taxable benefits for using the property.

Considering A Holding Company?

Whether a holding company is right for your situation is based on each person’s individual circumstances and you should discuss your options with a professional accountant.

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Income splitting can produce some pretty dramatic results.

Consider the case of a married, self-employed individual whose taxable income is in excess of $250,000. Assuming the spouse does not work, the tax bill would be $94,700 (in Ontario).

If this couple were to split their income equally, their combined tax bill would drop to $77,700, a savings of $17,000.

Now if income splitting were as simple as moving income from one family member to another everyone would be doing it. However, the Income Tax Act contains some rules that prevent most of simple income splitting.

Business Income Splitting Techniques

There are a number of simple strategies business owners use to split income with your family members.

1. Pay Your Spouse & Children A Salary – If your spouse and children help you in the business, consider paying them a salary for the work performed. You will need to keep a record of the dates worked and what was done. In addition, you should pay them what you would have paid a third party for the same work.
2. Become A Business Partner With Your Spouse – If your business is not a corporation, you may be able to show that your spouse is a partner in the business and can share in the income and losses.

This strategy requires some planning and thought and a shareholders agreement should be part of the plan.

1. Corporate Income Splitting – Although there are some challenges to overcome, income splitting through a corporation provides flexibility in allocating income between family members. Be careful to avoid the “kiddie-Tax” applied on dividends to minor children and the corporate attribution rules that may apply when the spouse is made a shareholder.

If you are interested in in finding out how income splitting can help you reduce your tax bill, contact me to arrange a consultation.

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The income tax you pay is based on a set of progressive tax rates. This means that the amount of income tax you pay increases as your taxable income increases. For example, in 2012 you would pay federal income tax of:

• 15% on the first $42,707 of income you earn,
• 22% on the next $42,707,
• 26% on the next $46,992, and
• 29% on any taxable income over $132,406.

In addition to the federal income tax, each province in Canada charges progressive tax rates. Therefore, Canadians are motivated to lower their overall income tax payable by splitting income with family members.

Income splitting is a strategy of shifting income from a higher income earner to a lower income earner in order to reduce the overall tax paid by the family.

Limits To Income Splitting

The government needs tax revenue and has limited many of the income splitting opportunities. However, some income splitting opportunities still exist that will allow you to split income with your spouse or other family members.

Some Income Splitting Is Encouraged!

While many of the income splitting opportunities can be somewhat complicated, the government has specifically allowed Canadians to income split in three ways:

• Spousal RRSP’s – Spousal RRSP’s allow one spouse to contribute to the other spouses’ RRSP. This allows the higher income spouse to lower their income now and then use the spousal RRSP to even the income earned in retirement.
• Pension Income Splitting – For those who receive a pension income, you can split pension income with your spouse.
• TFSA’s - Money you give to your spouse that is put in their TFSA is exempt from the income splitting rules. Questrade offers TFSA trading accounts.

If you want to learn more about other income splitting opportunities, look at my article on income splitting opportunities. You should read my article on the right way and wrong way to split income.

Looking For Professional Help?

There are a number of income splitting techniques that can be employed by business owners and seniors. If you like to schedule a consultation to help you reduce your overall tax plan, please feel contact me at 289-288-1206 or contact me to arrange an A+ Consultation.

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Income splitting and avoiding probate on death are possibly two to the most popular financial planning strategies in Canada. However, did you know that when you are planning your estate, that it is possible to avoid probate and provide your heirs a flexible income splitting opportunity using trusts?

What Is A Trust?

A trust is a structure that is established to separate the legal and beneficial ownership of assets although this is not required (as we shall see shortly). For more information, please see my articles entitled What Is A Trust? and Types of Trusts.

Trusts & Income Tax

When a person establishes a trust and places assets in that trust during their lifetime, any income retained in the trusts will be taxed at the highest marginal tax rate. The top rate in Canada ranges from 39% to 48% depending on your province of residence.

When a trust is established and the assets settled in the trust as the result of death, then any income retained in the trust is taxed using the same graduated tax rates of an individual. While the personal tax credits are not available, there is an opportunity to split income from an inheritance with a trust established by a deceased person’s will.

Probate & Income Taxes

Probate is a court fee imposed to confirm the executor of an estate and the validity of the will. Any assets that are specifically mentioned in the will will be subject to the calculation of the probate fee. Certain assets that allow you to name a beneficiary (i.e. insurance, segregated funds, other insurance contracts, RRSPs, and RRIFs) are said to pass outside the estate and are not included in the calculation of probate fees.

For more on probate, see my article entitled How to Minimize Probate Fees.

The Strategy

This strategy works best with life insurance polices or segregated fund policies since these products allow trust settlement options in their terms.

You must take note of your insurance policy assets and consider purchasing segregated funds if they suit your investment and other needs. Each of the insurance contracts must have insurance trusts as the named beneficiary.

You must then establish the terms of the insurance trusts in you will. To provide maximum flexibility, allow the intended beneficiary to be the trustee. The terms should specify entitlement to the income of the trust and provide access to capital for any reason.

What Happens At Death?

When you pass away, your will establishes a trust. The insurance contracts will pay directly to the trust and by-pass probate.

The assets in the insurance trusts are then invested and the income is taxed inside the trust as opposed to in the beneficiaries hands. Income is paid out of the trust on an after tax-basis and viola, probate is avoided and income is split!

More Income Splitting

If you have a business, there are other techniques that can be used to split income with family members. If you’re interested, contact me for a consultation.

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Developing an estate plan involves more than just a will and planning for income taxes at death. It is important to take an inventory of your personal assets and affairs before you prepare your will.

The Estate Planning Team

Depending on the complexity of your estate, you may need to engage a number of professionals to help you plan your estate. In addition to a lawyer, you may also require the services of an accountant, financial advisor, insurance specialist, or a trust company.

Gather Your Information

Before taking the first steps in estate planning, it is important to take stock of your situation. Without knowing exactly where you stand it is difficult to know what you plan should look like. The information you need to gather will be unique in every situation. As a general guideline, you should have the following information:

• Personal details about you, your spouse, your children, and other dependents you have.
• Marriages and deaths (yours and your children)
• Your health condition
• A general idea of how you want your assets distributed
• Information on your investments, including bank accounts, GICs, brokerage accounts, RRSPs and RRIFs
• Other property you own such as business assets and real estate including a cottage or vacation home.
• Details of your employment and benefits
• Details of any insurance policies you have
• Details of your debts including your mortgage and personal loans

Remember that it is important to disclose everything in the estate planning process. Failing to do so can cost you or have some unintended consequences when you die. The professional on your team are there to help and not judge: They will identify opportunities and develop strategies to help you achieve your goals!

Getting Help

Making sure you have your affairs in order can be challenging. A professional accountant and financial planner can help you inventory your assets, understand how you want your estate to be handled and recommend opportunities to save taxes, reduce fees and ease the administration of your estate. If you are looking for assistance with creating your estate plan, please contact me for more information.

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Tax season is here and it’s time to start gathering all of your important documents to take to your tax accountant.

As you begin gathering all of your tax slips, don’t forget to bring your receipts for these, often overlooked expenses:

Income Splitting

Although income splitting has been severely limited, there are a number of income splitting opportunities available.

For seniors, pension income splitting can reduce your tax bill, but those splitting pension income should be mindful that they may trigger the OAS clawback or affect other tax credits

For other individuals, you may split with your spouse or children under very specific circumstances. Planning is required because some of these arrangements can become complex and it is easy to run into problems.

Medical Expenses

You can receive a tax credit for medical expenses you paid within certain limits. If you are a participant in a benefits program, you may be missing some important tax credits.

Many employer’s who offer medical and dental “benefits” are actually deducting a portion of the premium from the employees paycheque. These deductions may qualify as medical expenses and can help you reduce your tax bill.

Also under medical expenses are co-payment amounts and dental expenses. If you have had a number of visits to the doctor in the past year, you may be entitled to additional credits.

Employment Expenses

If you are a commission sales person or are required to pay certain employment expenses, these can be deductible. You may be able to claim additional home office expenses.

Interest Paid on Investment Loans

If you have a margin account or have used a loan or line of credit to invest in the stock market, the interest on these loans may be deductible.

Charitable Donations

If you have made charitable donations in the last year, the tax credit is very generous. You receive the minimum tax credit of 15% on the first $200 and 29% on every dollar thereafter.

If you donated securities or other certain other assets, you may be entitled to completely eliminate the capital gain.

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The basic personal amount is a tax credit available to anyone who paid income tax during the tax year. The impact of this tax credit is that any income you earned up to the amount of the credit is essentially tax free.

For the 2011 tax year, the federal Basic Personal Amount was $10,527 and will reduce the amount of tax payable on the first $10,527 by $1,579. Therefore, the first $10,527 of income earned in 2011 will not be taxed.

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If you were married or in a common law relationship during the 2011 tax year, you can claim the Spouse or Common Law Partner Amount if your spouses’ income was less than $10,527.

Any net income your spouse reported on Line 236 of their tax return will reduce the credit amount dollar-for-dollar and fully eliminates this credit when your spouses’ income exceeds $10,527.

Canadian Dividend Income

If you cannot claim this credit because your spouse had too much income, you may still be able to claim the credit if your spouse had dividend income from Canadian corporations. Simply report your spouses’ dividend income on your tax return. This lowers his or her net income  and may allow you to claim this credit.

Were You Separated From Your Spouse?

If can still claim the Spousal credit if you were married or common law at any time during the year. However, you reduce the credit by the amount of your spouses’ net income before the separation.

If you were paying spousal support (not child support) you have a choice to make. You can either the deduct spousal support you paid on Line 220 or the Spousal or Common Law Amount credit on Line 303.

Looking For Professional Help?

If you’re looking for advice or tax planning services, you can contact me directly through my professional tax practice.

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Income taxes can be confusing and the concept of the tax credit can be a challenge.

But tax credits are not that difficult once you understand some of the terminology.

Tax Credit Amount vs. The Actual Credit

Non-refundable personal tax credits are listed as an amount, which is different from the actual value of the tax credit itself. The amount can be thought of in terms of the income you earn while the actual tax credit is how much your tax payable can be reduced.

For most non-refundable tax credits, the amount is multiplied by the lowest tax rate to arrive at the actual tax credit.

For example, in 2011, the federal Basic Personal Amount was $10,527 and the lowest tax rate was 15%. The value of the actual tax credit is $1,579 and it is this amount that can be used to reduce your taxes payable!

This basic rule applies to all non-refundable tax credits except for the Charitable Donation tax credit, which applies the lowest tax rate to the first $200 of the donation and the top bracket to anything above $200.

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Filing your taxes is often in the same category as visiting the dentist to have your teeth drilled. You know you need to do it, but would rather put is off until the pain is so unbearable, that you just can’t avoid it any longer. Filing your taxes does not have to be that difficult.

Getting prepared takes very little time and can help you feel better about filing your return on time before April 30th (or June 15th if you are self-employed).

What Is Involved?

There are four simple things you can do to get ready for tax season: (1) Figure out how you are going to file, (2) Know the deadline dates, (3) Get organized, and (4) File on time or before the deadline.

How Are You Going To File Your Taxes?

The options to consider are to do your taxes yourself by hand, take it to a tax preparer or accountant, or use software.

If your situation is complex or you are simply not comfortable doing your taxes yourself, you should consider using  a professional tax accountant. An accountant will work to minimize your current and future tax bills. Your accountant will also be there year round to support you.

Know The Important Dates

After you figure out how you are going to file, you need to find out when your taxes are due and when you should expect to receive your tax slips.

• For most Canadians, the personal tax return must be filed by April 30th. If you or your spouse is self-employed, your tax return is not due until June 15th although your taxes must still be paid by April 30th.
• Your employer must mail or provide you your T4 slip that shows your employment earnings no later than February 29, 2012 .
• The RRSP contribution deadline is February 29, 2012. You will probably receive a contribution receipt immediately or it will be mailed within a few days.
• If you receive income from a mutual fund or receive dividends or interest, you will receive a T3 or T5. These will normally arrive during March.

Get Organized

If you start your filing system now, you’ll save time during the year preparing for next year’s filing deadline. For my personal taxes, I have use single file folder marked “Income Tax”. During the year I place any important tax documents such as my T3, T4, T5 slips, my Notice of Assessment and other important documents such a medical receipts.

File On Time

Don’t wait until the last minute. If you owe the CRA money and do not file and pay on time, you will be assessed interest and penalties. The penalty for not filing on time is 5% of the amount owed plus 1% for each month the payment is late. Don’t Delay – April 30th Is Looming explains this pretty well.

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