Income Splitting With Loans To Your Spouse

by Tax Guy - Burlington Accountant on May 20, 2009 Print This Post Print This Post

If you transfer or gift funds to your spouse or common law partner, any interest, dividends or capital gains earned on those funds will continue to be taxed in your hands. If you are interested in finding out how attribution works between married couple, please see my What Are The Canadian Income Splitting Rules? article.

Although stock prices have recovered somewhat since March 2009 lows, prices still remain low compared to 2008. In addition, we have seen interest rates at all time lows and in particular, the Canada Revenue Agency’s (CRA) prescribed rate for family loans has been set at 1% as of the second quarter of 2009.

Avoid Attribution With A Spousal Loan

You can avoid the attribution of income back to you by lending your spouse money he or she can then use to invest in stock, bonds, mutual funds or any other income producing investment. You the take a note back with a stated rate of interest, the prescribed rate at 1%, and as long as your spouse pays you the interest on the loan, from their own funds, within 30 days of the end of each year, there will be no attribution.

For more information on how the loans works, see my article from last year called Income Splitting Using Loans To Your Spouse.

What is the Big Deal With 1% and Low Stock Prices?

Whenever you borrow money you look for the lowest rate, right? Who wants to pay more interest? The 1% allows you to lock in a low rate until the loan is paid … And there is no requirement to pay the principal back, only the interest.

You must pay tax on the 1% interest your spouse pays you. If the goal is to shift income from you to your spouse, the lower the rate of interest, the better.

Your spouse can deduct the 1% interest from his or her income. If your spouse’s portfolio generates more than 1% in interest and dividends, the loan interest is fully covered both from attribution and cash flow perspectives.

The process will also allow your spouse to acquire investments at what could still be considered bargain prices.

Lending Tips

There are three things to remember when using the spousal loan strategy:

  1. Document the loan with a promissory note. Include that date, amount lent, and rate of the loan.
  2. Try to lend cash as opposed to stock or other investments. Lending investments cash trigger capital gains or result in denied capital losses (see below).
  3. Ensure your rate of return on the investments is higher than the precribed rate of interest.

Watch Out For Superficial Loss Rules

One final note: If you plan on lending stocks to your spouse, any capital gain is fully taxable but the superficial loss rules apply if there was a loss. For more on superficial losses see Superficial Losses: Gains & Loss on Identical Properties.

About The Tax Guy...

Dean Paley CGA CFP is a Burlington accountant and financial planner who services individuals and business owners locally, nationally and internationally. Dean has appeared in the National Post, Toronto Star and Metro News.

To find out more, visit Dean's website Dean Paley CGA CFP or connect via Twitter @DeanPaleyCGACFP.

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Need help guy November 28, 2010 at 12:32 am

Hi Tax guy,

Nice site. Quick Q. I would like to take ~$44,000 worth of shares out of my wife’s non registered acct and have her loan them to me at the prescribed rate (currently she has a loan of 15,000 against these shares). I would then take those shares and move them into my RRSP for a 39% deduction/tax return. I would take the tax return and pay down (44,000*.39) of my wife’s loan to me and then she would pay down the original 15,000 she had. I would not be deducting the interest from her loan to me and she would stop deducting the interest on the 15,000.

Flags: can she lend me money (i.e. shares) she has borrowed?
can she transfer shares?

thanks for any of your thoughts

Tax Guy November 30, 2010 at 10:27 am

Your wife cannot “lend” you the shares. She has to sell them to you for FMV and claim any tax gain or loss. If there is a loss, you should wait 30 days to avoid having the loss deemed superficial.

Wife sells you shares at FMV and takes a note back as consideration. The note is at the prescribed rate and interest must be repaid within 30 days of the tax year-end.

Wife claim taxable disposition on sale.

You contribute the shares to your own RRSP and receive tax deduction. You must repay the loan IN FULL to avoid having this all unwound by the CRA.

I will also reiterate my standard disclaimer. The information provided here is intended to be general and does not replace paid professional advice.

Sandy December 7, 2010 at 12:25 pm

We are considering setting up a spousal loan (demand loan) using all of the “rules” you describe above. What would happen to this loan upon death of the lender. Would it need to be paid back to become part of the estate for probate purposes or could the estate forgive the loan and avoid probate?

Tax Guy December 7, 2010 at 5:15 pm

There is no attribution after death and the loan can be forgiven in the Will to make it happen.

Bob M December 8, 2010 at 10:41 am

cannot joint bank accounts be another way to ‘split’?

Tax Guy December 8, 2010 at 11:26 am

That is a MAJOR myth. Joint accounts have never been a way to split income. The attribution rules still apply.

Need help guy December 9, 2010 at 11:03 pm

Thanks for taking the time to answer my question

Greg March 18, 2012 at 3:23 pm

Spousal loans are a great strategy, I’ve been doing this for almost 10 years now. Some of my old loans are at 3%. Is there a simple way to renegotiate the spousal loans to the current 1% prescribed rate? Is a revision to the promissory note sufficient?

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