If you’re not claiming all the tax credits and deductions you’re entitled to, you may be paying more to the government than you need to.
What you can deduct from your taxes
Deductions from income and tax credits are reported on lines 206 to 485 of your income tax return. So, take some time to review them carefully. There may be steps you can take to maximize the amount you can claim.
For example, you have until March 1 to top up registered retirement savings plan contributions that you can claim as a deduction for the previous year. The deadline can be a day or two later, if March 1 falls on a weekend. And claiming a tax deduction can often mean getting a refund come tax time.
The same is true of tax credits. Taking some time to pull together all the receipts you need to claim allowable credits can mean real savings.
What’s the difference between claiming a tax deduction and a tax credit?
What are tax deductions?
Tax deductions reduce the overall amount of tax you have to pay by reducing your annual income.
That’s because they come straight off your annual earnings.
For example, if you’re a salaried employee, your employer has likely deducted tax all year from your paycheque, based on your estimated annual income. By contributing to an RRSP and effectively reducing your income, you may end up having paid more tax than necessary and so qualify for a refund.
Just remember, says the Million Dollar Journey blog, “If you’re getting a big tax refund at the end of the year, that money was basically an interest-free loan to the government.” A better approach is to make regular RRSP contributions and get your employer to reduce your tax payments at source.
Also, while you get a tax break on your contributions to an RRSP, you will pay tax on your withdrawals. This works well if you expect to be in a lower tax bracket in retirement (or when you draw the money out) than you’re in now. If not, you may want to consider putting your money in a tax-free savings account instead. Read Where to stash your cash to help you weigh your options.
What are tax credits?
Tax credits fall into two categories, non-refundable or refundable:
Non-refundable tax credits (such as eligible tuition expenses) are applied directly to your tax bill to reduce the amount of tax you owe. They are not paid out directly. You must owe tax in order to claim them.
Refundable tax credits (such as the federal GST/HST Tax Credit) are government tax refunds. They are paid out automatically, often in a series of payments throughout the year. They go to anyone who files a tax return who qualifies.
For more information on what you can deduct and where to report tax credits and deductions, visit the Canada Revenue Agency.
Where to stash your cash: RRSP or TFSA?
Confused about the best savings option for your needs? You’re not alone. Both an RRSP and a TFSA provide unique tax advantages.
Ever since the federal government introduced the tax-free savings account (TFSA) in 2009, there’s been debate about whether a TFSA or a registered retirement savings account (RRSP) is the best place to stash your cash.
Both provide tax advantages – there’s no tax payable on investment growth on funds held inside either account. However, each has its own set of rules. Consider Scott and Jennifer, newly married and saving for a trip to Europe.
“We’re both good savers and have enough in our RRSPs to cover the cost of the vacation,” says Scott. “The catch is we’d be hit with taxes on the withdrawal. For us, it made more sense to open TFSAs that allow us to save money knowing we’ll be able to withdraw it when we need it without penalty.”
But Scott says opening TFSAs didn’t mean ignoring their RRSPs. “The tax refund we’ll get in the spring from contributing to our RRSPs is an added bonus. Plus, it will come at the perfect time – just before we plan to leave.”
Whether contributing to an RRSP or a TFSA, the main things to consider are when and how you want to use the funds.
When it comes to saving for retirement, RRSPs are pretty hard to beat. Your contributions reduce your annual income tax. And, assuming you’ll be in a lower tax bracket when you draw the money out, you’ll save substantially on the overall amount of tax you pay. They are usually not a good option for short-term savings, however, as money withdrawn from an RRSP will increase your annual income and may result in your having to pay more taxes.
TFSAs were designed to supplement RRSPs. If you’ve maxed out your RRSP, they provide you with another great way to shelter a portion of your investment earnings from income tax. Because withdrawals are not subject to tax, they are also a good option for saving for shorter-term goals such as the down payment on a home, a vacation or an emergency fund.
Simply put: If you have adequate savings, it’s usually advisable to contribute to both an RRSP and a TFSA.
Sponsored by Shannon Hood Financial Services Inc.