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Take Control of Your Gross Earnings

By Evelyn Jacks

When you started that first job and annually ever since, you may have been handed a series of tax forms to help your company's payroll department understand how much tax you wanted deducted from your gross pay.

This involves actually knowing about and indicating which "personal tax credits" you qualify for. Most people don't understand what this means, and looking from the incomprehensible tax terms on the forms, to their rushed payroll clerk, they are often given the following response to their "deer in the headlights" expression: "Just claim single; you'll owe nothing more at tax time."

And with that advice, inferring of course that you may not be able to save any sum, let alone enough to pay your taxes, it becomes an accepted habit for life to overpay the taxes your employer deducts at "source", that is from your gross pay! Unfortunately, this is one of those decisions that can put you at great financial peril.

People would have a better chance of paying all of their bills and saving for their future if they weren't losing control of so much of their gross pay. In recent years the average tax refund is significant: over $1400, or $120 a month. This is money you essentially loan to the government without being paid any interest in return.

Put another way, it's like owning a rental property, having tenants and then not charging rent!

Over a 40 year working life, $1400 a year would grow to an accumulation of $56,000 before interest is earned. When you assume an average interest rate of 2% that money would grow to over $75,000-more than the average amount most people have in their RRSPs today. Inside an RRSP, earning the same rate, that refund would grow to over $86,000. (Investing the same sum inside an RRSP at a 5% average rate of return, the money would grow to close to $180,000! You can see that interest rates and tax sheltering inside an RRSP matter a lot.)

Spacer Chart of pre-tax growth of $1400 invested annually over a 40-year period

It is clear that this average tax refund, invested in your hands instead of the government's, is extremely lucrative due to the basic effect of compounding over the lifetime of an average worker. Change the game: pay only the correct amount of tax on your income sources by being in control of more of your employment earnings first. Here's how:

Reduce your tax withholdings on your income sources; complete the forms, properly

To reduce your tax withholdings you'll be doing two things: first, telling the government about the personal tax credits you are entitled to in reducing your taxes. Second, you'll tell the government about certain allowable deductions you will have this year.

  1. The TD1 Personal Tax Credits. One of these forms must be ­completed for the federal tax you'll pay and one for the provincial portion. The most common federal and provincial tax credits, used to reduce the amount of income subject to tax, are the following:

    Available to everyone:
    • Basic personal amount (no receipts required!)
    • Charitable donation amounts (based on your contributions or asset transfers)
    For seniors:
    • Age amount, if you are 65 or over
    • Pension income amount
    For families:
    • Spouse amount
    • Amount for eligible child (equivalent-to-spouse)
    • Amount for child under 18
    • Amount for infirm adult
    • Canada fitness amounts
    • Public transit pass amounts
    • Amount for adoption expenses
    • Tuition, education and textbook amount
    For dependants who are sick or disabled:
    • Caregiver amount
    • Disability amount
    • Medical amounts (based on your income and expenses)
    If you are filling in the TD1 forms for yourself, it is helpful to look back at your last federal tax return to see what you claimed on "Schedule 1", which lists credits you claimed last year. Will anything change for you or your family this year? Will you be getting married or divorced? Going back to school? Having a baby? Moving your sick aunt into your home for caregiving? All of these circumstances can result in extra reductions to your tax ­withholding requirements.

  2. The T1213: Request for a Reduction in Tax Withholdings. Will you be spending money for any of the following expenses? If so, request that your tax withholdings be reduced. You'll get to keep more of the money you've made so that you can actually make these transactions:
    • RRSP contributions
    • Child care expenses
    • Tax deductible spousal support payments
    • Employment expenses like auto expenses, home office or cost of an assistant
    • Costs associated with your investments like interest on your investment loans, also known as carrying charges
    • Other significant tax deductible costs like moving expenses, medical expenses or charitable donations
    Simply fill out the T1213 form, send it to the CRA, and they'll give your employer permission to reduce your taxes on your income source. Most people don't know about this and it can make a big difference in your ability to build wealth.

If you need help with any of this talk to the person who did your tax return, as they can tell you the exact amounts for the current year. Most personal tax credits are adjusted for inflation every year, and so their values will change. Ideally you should revisit the personal amounts ­available to you at the end of the current year, in December, when the new forms for the next year are available and you have a chance to do some year end tax planning. Be sure to indicate every credit and deduction you think you'll be entitled to.

Recover Overpaid Instalments

Certain people have to pay income taxes by making instalment payments. For 2008 and subsequent years, to qualify for quarterly instalment ­payments taxes payable after you file your tax return must be over $3,000 for the current year or either of the prior two years. This can happen when taxpayers report income from self-employment, investments, or other sums from which tax is not withheld at source.

Farmers and fishers, will make one instalment payment by December 31, but only if the actual tax owing for either of the two preceding years does not exceed $3,000.

When taxpayers fall into an instalment profile, they will receive a regular billing notice from CRA reminding them about this, based on their taxes payable of the immediately prior two years. Trouble is, if income has fallen since then, instalments may no longer be necessary. Yet many people keep paying the request for instalments sent by the CRA, instead of using or investing that extra money for themselves.

Good news: you can request an adjustment to change your instalment remittances by writing a letter and requesting instalments be calculated under one of two other options:

  • Current-Year Option. Under this option, the taxpayer's income tax liability (plus amounts that will be owing to the Canada Pension Plan - CPP) for the current taxation year is estimated, and then one-quarter of the estimated amount over $3000 is due on each of the four due dates: March 15, June 15, September 15 and December 15.
  • Prior-Year Option. Under this option, you will estimate your instalments based on your prior year taxes and CPP premiums owing. Tax software computes this easily; otherwise see your tax professional for help.
Taking control of your gross earnings is the first step in controlling more of your money so that you can actually have the money to pay your bills and make investments, too. This is a much better way to manage your cash flow.

 

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Sure, it's difficult to be an expert at filing your income tax return – something you do only once a year – but once again Canada's most trusted tax author, Evelyn Jacks has come to the rescue with over 200 quick and easy Essential Tax Facts you need to know to get the job done and to your best advantage in 2011 and beyond. Click here to order the book.

 

 

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