With only a few hours left in 2005, it's probably too late to implement any
meaningful tax-saving strategies for the 2005 tax year. But what better time
than now to get a head start on 2006?
Here are my top 10 tax resolutions for 2006 -- strategies you can implement
immediately to save tax during the upcoming year.
RESOLUTION 1: MAXIMIZE RRSP CONTRIBUTIONS
The new contribution limit for registered retirement savings plans for 2006
is the lesser of 18% of 2005 earned income or $18,000. January is a great time
to get a jump on 2006 contributions -- if you have the cash. If not, consider
making an RRSP contribution "in-kind."
Keep in mind, if you contribute a fund with an accrued loss "in-kind" to an
RRSP from a non-registered account, that loss is permanently denied. A better
strategy would be to switch the fund to a money market fund, realize the capital
loss, and then contribute the money market fund to the RRSP.
If you still want to own the original fund in your RRSP, it's best to wait
the 30 days before buying back the fund so that the recently amended superficial
loss rule will not apply to deny the loss.
RESOLUTION 2: MAXIMIZE RRSP FOREIGN CONTENT
With the elimination of the foreign content limit in last year's federal
budget, you now have the option of investing your entire RRSP or registered
retirement income fund globally, without any artificial restrictions. Yet
surprisingly, despite that the budget passed over six months ago, many investors
are still hovering around the former 30% foreign content limitation.
RESOLUTION 3: SET UP A SPOUSAL RRSP
Spousal RRSPs remain one of the last legal methods of income-splitting
between spouses or common-law partners. The primary benefit of a spousal plan is
that funds withdrawn from it can be taxed in the hands of the annuitant rather
than the contributor. If the annuitant spouse is in a lower tax bracket than the
contributor spouse in the year of withdrawal, there may be an absolute and
permanent tax savings.
RESOLUTION 4: INVEST OUTSIDE AN RRSP
Investing in shares of multi-class mutual fund corporations (where each class
of shares represents a different fund) has an advantage over investing in
plain-vanilla mutual funds in that investors can switch from one class of shares
to another without incurring any immediate capital gains tax. A secondary, but
oft-forgotten benefit, is mutual corporations are generally able to minimize the
amount of annual capital gains distributions by using capital losses of one
class to offset capital gains otherwise distributable for other classes.
RESOLUTION 5: OPEN UP RESPS FOR (GRAND) CHILDREN
It is nearly eight years since the federal government reinvigorated
struggling Registered Education Savings Plans by introducing the Canada
Education Savings Grant (CESG) program, which provides a 20% grant on the first
$2,000 a year of annual RESP contributions for each beneficiary. Higher grants
may apply to low- and middle-income families.
Keep in mind if you have not set up RESPs for children or grandchildren,
there is a huge opportunity to go back and collect prior years' CESGs,
cumulatively retroactive to 1998.
RESOLUTION 6: MAKE YOUR INTEREST TAX DEDUCTIBLE
Still carrying a mortgage but also investing outside your RRSP? Under a
strategy approved several years ago by the Supreme Court of Canada, you can sell
non-registered investments (subject to any capital gain/loss considerations),
pay off the mortgage (again, subject to any early payment penalties) and then
get a secured line of credit against your home to repurchase the securities
sold. This way, your otherwise non-deductible interest becomes tax deductible.
RESOLUTION 7: CONSIDER INCOME SPLITTING
The Canada Revenue Agency announced that the prescribed interest rate for the
first quarter of 2006 will remain at 3%. A spousal loan income-splitting
strategy whereby the higher income spouse (or partner) loans funds to the lower
income spouse to invest may be ideal given the near-record-low prescribed rate
required to be charged on such loans.
RESOLUTION 8: CONSIDER A SYSTEMATIC WITHDRAWAL PLAN
Looking for tax-effective cash flow from your mutual fund account? Consider
setting up a systematic withdrawal plan which allows you to receive regular,
tax-efficient cash flow from your funds. Most fund companies offer this type of
plan -- speak to your advisor for more information.
RESOLUTION 9: DONATE "IN-KIND" TO CHARITY
Consider donating appreciated stock or mutual funds directly to charities in
2006. Not only will you get a tax receipt for the fair market value of the stock
or funds donated, but you also will be able to reduce your capital gains
inclusion rate to 25% from the usual 50%.
RESOLUTION 10: PLAN NOW NOT TO GET A TAX REFUND
Finally, if you regularly get a significant tax refund each spring, perhaps
due to RRSP contributions made during the year, you should consider applying to
the CRA for a reduction of tax withheld at source by your employer. Because
CRA's Form T121 needs to be completed each year, January is an ideal time to
begin the process anew.
Many happy returns ...