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How to Lend Money to Your Spouse for investments, without adverse tax impact?

Normally if money is loaned to a spouse for acquiring an income producing property, any income or gain of that would be attributed back to person lending the money. However, if planned properly, it can result in tax savings for the family.

Where one spouse is in a lower tax bracket as compared to other, it may be beneficial to lend money to the lower-income spouse. The borrowed funds can be used to purchase investments, and tax on the investment income will be paid by the lower-income spouse at a lower marginal rate. 

To achieve the tax savings, a promissory note should be written for the loan, with the interest rate and principal amount specified.  Interest must be paid on the loan by January 30th of each following year.  In order for attribution rules to not be applied, the interest rate charged must be at least equal to the prescribed rate set by the Canada Revenue Agency (CRA) at the time the loan is made.

Borrowed funds should be invested in a separate investment account in the borrower's name.

The lender must include the amount of interest received in his/her income. Interest paid by the borrower is deductible as carrying charges, as long as a loan agreement has been drawn up so that there is a legal obligation for the borrower to pay the interest.

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Tax implications of Gifts, Transfers, or Loans to a Spouse or a Related Minor Child (Attribution Rules)

There are tax implications for transfer by way of gifts or loans of any income-producing property or money that for the purchase of income producing property, to spouse or related minor Child. The transfer may be either direct or indirect, or by means of a trust.

Where such transfer is made to a spouse, any income earned on such property will normally be added back to the income of the person giving the gift or loan. If at any point, that property is sold any gain arising from that will also be attributed back to the person giving the gift or loan.

In the case of gift or loan is made to a related minor child, the income from the property will normally be attributed back to the person giving the gift or loan. However, the capital gains from the property will be considered capital gains of the minor.

A related minor, for purposes of the attribution rules, is a child who is under 18 years old and does not deal with the individual at arm's length and includes a niece or nephew of the individual.

However, the following are some exceptions to the aforementioned attributions rules:

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Things to know about Work-space-in-the-home expenses

If you are using space in your home to earn employment income you may be able to deduct certain expenses relating to work space in the home. You can deduct such expenses for the employment use of a work space in your home, as long as you meet one of the following conditions:

  • The work space is where you mainly (more than 50% of the time) do your work.
  • You use the workspace only to earn your employment income. You also have to use it on a regular and continuous basis for meeting clients, customers, or other people in the course of your employment duties.

You will need Form T2200 Declaration of Conditions of Employment which has been completed and signed by your employer.

You can deduct the part of your costs that relates to your work space, such as the cost of electricity, heating, maintenance, property taxes, and home insurance. However, you cannot deduct mortgage interest or capital cost allowance.

To calculate the percentage of work-space-in-the-home expenses you can deduct, use a reasonable basis, such as the area of the work space divided by the total finished area (including hallways, bathrooms, kitchens, etc.). For maintenance costs, it may not be appropriate to use a percentage of these costs. For example, if the expenses you paid (such as cleaning materials or paint) were to maintain a part of the house that was not used as a work space, then you cannot deduct any part of them. Alternatively, if the expenses you paid were to maintain the work space only, then you may be able to deduct all or most of them.

If your office space is in a rented house or apartment where you live, deduct the percentage of the rent and any maintenance costs you paid that relate to the work space.

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Will the proposed tax measures help cooling the hot Canadian housing market?

 

Years of low interest rates and changes in the way real estate markets are operating in Canada are fueling the price increase in various pockets of the country. More and more people are raising concerns about sustainability and affordability of houses by Canadians. To address those concerns and Federal government has announced changes in rules relating to mortgage financing and mortgage insurance. It has also proposed income tax measures which will impact the real estate transactions going forward.

 Proposed income tax measures are explained in following paragraphs.

Currently, homeowners disposing of their principal residence, are exempt from capital gains taxation (“the principal residence exemption”). The exemption is available only to Canadian resident individuals and trusts. This exemption is further limited by the rule that, families are able to designate only one property as the family’s principal residence for any given year. 

As per the Department of Finance, the proposed tax measures would improve tax fairness and the integrity of the tax system. Under these measures:

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Why is it important to file the tax returns on time ?

As an individual and/or business, it is always recommended to file your tax returns on time not only to keep your affairs well organized and up-to-date, but also to stay on top of the your financial affairs. If any taxes are owing, It also make sense to file tax returns on time because of interest and penalties associated with late filing.

In order to explain the above point, lets look at an example where an individual tax return for 2015 was filed late by two months and $1,000 was owing in taxes. There will be a late filing penalty of 5% ($50) of tax owing that will be charged. In addition to the penalty, an interest @ 1% for each full month will also be charged. In this example, the return was filed late by two months, so a total of 2% ($20) of taxes owing will be charged. Because of late filing the taxpayer got penalized by a total of 7% of taxes owing. Maximum period for which the interest can be charged in this event is 12 months.

This get worse if late filing penalties were charged in any of the three preceding years. In such an event, late filing penalties and rate of interest rate will double to 10% and 2% per full month respectively. Using the same example as above, amount of late filing penalty will be $100 and amount of interest charged will be $40. Maximum period for which the interest can be charged in this event is 20 months.

Some of my clients asked me, should they file the taxes by the deadline, even though they know they don't have money to pay the taxes owing. My simple answer to them has always been "Yes". Filing the tax return on time will determine how much exactly is owed plus it will save the late filing penalty

 

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The Importance of reporting ALL income from information slips

Many people assume that if they fail to include an information slip with their income tax return, the Canada Revenue Agency ("CRA") will simply adjust the return to report the income and adjust the income tax accordingly.This is half correct!The other half of the equation is a little known penalty the CRA imposes for repeated failure to report income. This penalty arises when an income slip is not added in your tax return two times in a three year period.

This penalty consists of a 10% Federal, and 10% Provincial amounts. Whereas some penalties are applied against the uncalculated tax, this penalty is applied to the unreported income. If you voluntarily tell CRA about an amount you forgot to report, they may waive this penalty.

For Example, John filed his 2008 tax return early and hadn't received all of his T slips yet. After he filed, he received a T5 slip reporting $3.50 in interest income and didn't bother to request an adjustment because he thought the amount was trivial. The CRA then reassessed his return later to include the unreported income with no further issues. When John filed his tax return in 2010 however, he had forgotten about and then failed to report $2000 of RRSP monies he had withdrawn for his RRSP when he was tight for cash earlier in the year. When the CRA reassessed his 2010 return to include the unreported income, John was charged a $400.00 penalty, $200.00 Federal and $200.00 Provincial for repeated failure to report income plus interest.This effectively taxed his current income at over 60% due to his negligence in reporting $3.50 two years earlier! Another scarier way to look at it, is tax at over 10,000% on the original $3.50!

The moral of the story is that no matter how trivial, always report income included on income tax information slips

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Business Funds versus Trust Funds

Mary and Joe Brown own a computer business with 2 employees.  Mary completes the bookkeeping and assists Joe as a computer tech.  They opt to remit HST quarterly.  Mary has minimal bookkeeping experience and completes the books once a quarter.  Joe and Mary purchase computer inventory whenever necessary and make large shareholder withdrawals.  At the end of the quarter, Mary realizes that they do not have the funds necessary to pay the Receiver General so she neglects to file the HST.  The Receiver General sends the business a notice and Mary netfiles the first and second quarter.  Mary realizes that due to the large inventory and shareholder withdrawals, the business does not have the funds to pay the trust monies (HST), interest and penalties.

In the above scenario, Mary and Joe are spending Trust Funds and placing their business in jeopardy.

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