Beware the ides of March -- especially if you pay tax by instalments. If you
earn income that is not deducted at source, such as investment income, rental
income or capital gains, or if you're self-employed, March 15 is the deadline
for the first quarterly tax instalment to the Canada Revenue Agency.
The four quarterly instalments for 2006 are due on March 15, June 15, Sept.
15 and Dec. 15. Twice a year, in February and in August, the CRA will send you a
friendly reminder if you are required to pay.
Instalments are required if your "net tax owing" will be greater than $2,000
($1,200 for residents of Quebec) in 2006, and was also greater than $2,000 in
either 2005 or 2004. The definition of net tax owing is complex, but it
essentially refers to your net federal and provincial taxes minus income tax
withheld at source.
There are three different methods for determining the amount you owe in
instalments for 2006: the no-calculation method, the prior-year method and the
current-year method.
If your income level is fairly consistent from year to year, the
no-calculation option may be your best option. The CRA calculates your March and
June instalments based on 25% of the net tax owing on your 2004 assessed return.
The Sept. 15 and Dec. 15 instalments are calculated based on the net tax owing
from your 2005 return, due on April 30 (June 15 for the self-employed), less the
March and June instalments already paid.
If you follow this method and pay on time, no interest or penalties will be
assessed by CRA, even if you end up owing more money when you file your 2006
return in April next year.
The prior-year option bases the calculation only on the prior year -- 2005 --
not on a combination of 2004 and 2005. This is a good choice if your income in
2004 was unusually high, perhaps due to a large, one-time capital gain realized.
Under this option, you calculate payments based on your 2005 tax owing and pay
one-quarter of the amount on each instalment date.
Note that this method may require you to prepare a draft of your 2005 tax
return to determine correct amounts.
Under the current-year method, you are entitled to base your 2006 instalments
on the amount of estimated tax owing for 2006. You pay one-quarter of that
amount on each of the four instalment dates.
This option may be the most suitable if you expect the amount of tax owing
for 2006 to be significantly less than what was owed in 2004 and 2005. However,
if the amount owing is greater than what you estimated, you may be subject to
instalment interest and penalties.
The taxman will charge you instalment interest if you were sent a reminder
and you did not make the instalment payments, or if your instalment payments
were late or less than the required amount. Under certain circumstances, the CRA
may also charge an instalment penalty.
Keep in mind that paying instalments is not optional. Taxpayer Nancy Ross
learned a hard lesson about this in a Tax Court decision last fall. Ms. Ross
argued that because her employer deducted tax at source, which was greater than
the amounts she was required to pay by instalments, the instalment requirement
"does not apply" to her.
The judge disagreed and upheld the instalment interest charged by the CRA.