To paraphrase Benjamin Franklin, nothing in this world is certain except death and taxes. Although paying taxes is a certainty, that doesn’t mean the rules around them are fixed. We saw that clearly last summer, when the federal government announced proposed changes to tax rules for private corporations.
The key to dealing with tax changes is to stay on top of them and, based on your situation, adjust your tax strategies to optimize your outcome.
One of the main changes announced last summer is to the rules around income sprinkling, whereby incorporated physicians can pay dividends to adult family members to reduce taxes.
Like all forms of income splitting—of which income sprinkling is one type—the goal is to shift income from the higher earner in the family to a lower earner, and thus pay less tax overall. But the government is proposing new reasonableness tests that will constrain or eliminate income sprinkling for incorporated physicians. Once the tax rules are passed into law, they will be retroactive to January 1, 2018.
If you can’t income-sprinkle, you can reduce taxes or build retirement savings in other ways.
Depending on where you are in your career, here are some income-splitting strategies to consider.
- Give your spouse money to contribute to his/her TFSA.
- If you contributed $5,500 annually for 50 years, your spouse would have more than $1 million in his/her TFSA, assuming a 5% annual return.
- About 75% of that end value is income that won’t be taxed back to either of you.
- Contribute to your children’s RESPs.
- Let’s say you contribute $2,000 per year to a child’s RESP and get the matching Canada Education Savings Grant (20% of your contribution, or $400).
- If these amounts grow at 5%, the RESP will be worth about $67,500 at the end of 18 years. Of the $67,500, about $31,500 will be tax-free since it is the student who pays tax on it, not you.
- Contribute to a spousal RRSP.
- If you contributed $25,000 a year to a spousal RRSP for 30 years, and assuming that it grows at 5% annually, you would shift more than $1.6 million (about $900,000 in today’s dollars at 2% inflation) from your taxable income to your spouse’s.
- Keep your spouse as a shareholder after you turn 65.
- The new income-sprinkling rule does not apply to physicians age 65 and over. As long as your spouse is a shareholder and your corporation is still active, you can income-sprinkle with your spouse without being subject to the reasonableness test. Even if you are retired, you can income-sprinkle to draw retained earnings.
Despite the fact the federal government is moving ahead with its tax changes, the Canadian Medical Association continues to explore options and advocate for tax fairness for incorporated physicians and small businesses.
We recommend that you speak with your tax advisor to determine which tax strategies are best for your situation. Your MD Advisor can help you update your financial plan to ensure you remain on track to meet your retirement, estate and other goals.
About the Author
Lowell Thiessen, CFP®, RFP, is a Wealth Lead with the Wealth Planning and Practice team at MD Management Limited. He specializes in financial planning for physicians, particularly medical practice incorporation.More Content by Lowell Thiessen