1. Understanding your taxes using our glossary
Before reading on, watch this video to better understand the basics of taxes.
Now that we’ve covered that, here are some definitions of common terms:
- Gross salary: This is the amount you receive before various deductions (federal and provincial income tax, employment insurance, pension plan contributions, group insurance premiums, etc.).
- Net salary: This is the amount that remains after the deductions listed above.
- Taxable income: This is the portion of your annual income on which tax is applied. Annual income includes your salary and additional revenue such as bonuses, scholarships, tips, investment income, etc.
- Tax rate: This is the percentage of your income that’s taxed. In Canada, you pay both federal and provincial income tax – provincial tax rates vary from province to province.
- Tax brackets: Canada has a progressive tax system. That means the more money you make, the more taxes you pay. Different tax brackets may apply, depending on your taxable income.
2. Reducing your taxable income
Here are some helpful ways to reduce your taxable income and therefore your tax liability.
Contribute the maximum to your RRSP
Do you have a high tax rate? The money you contribute to an RRSP reduces your taxable income. The more you contribute, the more you save on taxes. You should note, however, that everyone has an annual contribution limit – the maximum amount they can invest in an RRSP in any given year. This amount varies according to your income. Consult your notice of assessment issued by the Canada Revenue Agency to find out yours.
In addition to reducing your taxable income, your RRSP contributions and earnings remain tax-sheltered until you withdraw them. Amounts withdrawn from your RRSP, unless made through the HBP or the LLP, will be added to your taxable income.
It’s important to remember that the main purpose of an RRSP is investing for your retirement. And because your taxable income at retirement is likely to be lower than the taxable income you had during your working life, you’ll pay less tax by withdrawing from your RRSP once you retire. It’s therefore more tax-efficient to wait before making a withdrawal.
→ See four concrete examples of how contributing to an RRSP can save you money on taxes: Contributing to an RRSP to pay less tax: 4 real-life cases.
Contribute the maximum to your FHSA
Thinking of buying your first home? The new First Home Savings Account (FHSA) can help reduce your taxable income.
The FHSA offers the same tax advantages as an RRSP: contributions reduce your taxable income, and investment returns are tax-sheltered. Plus, amounts withdrawn from your FHSA to purchase a first home are tax-free.
You can contribute up to a maximum of $8,000 per year, with a lifetime limit of $40,000.
→ Check out our article on the FHSA to learn more about it.
Consider income splitting
Do you live with a partner? Income splitting could be an attractive option for you. This is when the person with the higher income transfers money to the other so the total tax liability is reduced. For many retired couples, this option can be beneficial.
→ Read our article on income splitting to find the answers to all your questions.
You can also contribute to your partner’s RRSP, even if you’re already 71 – the age limit for RRSP contributions – as long as your partner is under 71. However, any contributions you make to your partner’s RRSP will belong to them.
3. Enjoying the tax benefits offered by registered accounts and plans
It’s not just RRSPs and FHSAs that offer tax advantages – other registered accounts and plans do too. They were created by the federal government to encourage people to save more.
You can have several accounts and plans. However, to make informed investment choices, it’s important to never lose sight of your needs and savings goals. Each savings vehicle has its own particularities. For example, the TFSA is a good option for a short- to medium-term project. An RESP, on the other hand, allows you to save for your children’s post-secondary education.
→ To find out which savings solution is right for you, check out our article: What is a registered plan or account?
Invest tax-free with a TFSA
Like RRSPs and FHSAs, Tax-Free Savings Accounts (TFSAs) allow you to grow your money tax-free. What’s more, withdrawals aren’t taxed either. However, there is an annual contribution limit, but if you don’t reach it, you can carry the unused contribution room forward to the following year.
→ Read our article on the TFSA for more helpful information.
Good to know: It can be easier to save small amounts over time than to set aside a large sum once a year. That’s why setting up automatic withdrawals is a great way to save all year round. See all our tips for systematic savings.
Take advantage of RESP grants
The Registered Education Savings Plan (RESP) lets you save tax-free for your children’s or loved ones’ post-secondary education. One major advantage is that it offers generous government grants, which means you’ll save even more.
Get government grants and bonds with the RDSP
The Registered Disability Savings Plan (RDSP) helps you put money aside to support yourself or a loved one with a disability. This savings tool allows you to obtain government grants and bonds.
Extend the benefits of an RRSP with a RRIF
The year you turn 71, you need to convert your RRSPs to a RRIF. Rest assured, your money will continue to grow tax-free. With the exception of the first year, you’ll then have to withdraw an increasing percentage of your savings each year, depending on your age. These withdrawals will be added to your taxable income, but since it’s likely to be lower than your income throughout your working life, the tax rate will also be lower.
→ Check out our article on RRIFs to find out everything you need to know.
4. Claiming all available tax credits, refunds and incentives
Both levels of government – federal and provincial – offer various tax credits and deductions, depending on your personal situation.
If you’re a first-time home buyer, you may be eligible for the First-Time Home Buyers’ Tax Credit (HBTC). Have you done some work to make your property more environmentally friendly? If so, the Canada Greener Homes Grant offers interest-free financing to pay for your renovations.
In the same vein, Quebec’s financial assistance for electric vehicles can help you finance the purchase of a new or used electric vehicle or charging station.
But that’s not all: your medical, moving and childcare expenses as well as work-at-home expenses, donations, etc. can also generate tax credits and deductions.
→ Make sure you don’t miss anything by consulting this page: All deductions, credits, and expenses offered by the Canada Revenue Agency.
5. Reinvesting your tax refund
Are you eligible for a tax refund this year? Go ahead and use some of that money to treat yourself. But it’s also a good idea to reinvest a good portion of it in your RRSP. Not only does this reduce your taxable income, it also increases your chances of receiving another tax refund, which you can then invest in your RRSPs. In other words, saving is a virtuous circle.