After reporting your income, you will list your deductions. A deduction reduces your total income. For example, if you have a total income of $100,000 and you have total deductions of $10,000, your net income will be $90,000.
Common tax deductions include:
- RRSP (registered retirement savings plan) and FHSA (first home savings account) contributions
- Elected split pension amount
- Investment management fees
- Interest on investment loans
Tax deductions reduce your net income and help you keep more or all of your OAS. The best deduction available to senior couples is the “elected split pension amount,” which allows a high-income partner to shift 50% of their pension or registered retirement income fund (RRIF) income to their lower-income partner.
Income Tax Guide for Canadians
Deadlines, tax tips and more
The next level of tax relief: credits
After your net income is calculated, you can still reduce the amount of tax owing through tax credits. Whereas tax deductions lower your income, tax credits reduce the amount of tax owing. The tax credits are usually calculated as a specific dollar amount multiplied by 15%.
Common tax credits include:
- Basic personal amount
- Age amount
- Pension income tax credit
- Disability tax credit
- Charitable tax credit
- Home buyer’s amount
- Medical expenses
- Tuition tax credit
These federal tax credits are more valuable than they seem because they lower the amount of basic federal tax, which in turn lowers the surtax and provincial tax.
Sheltering your investment income
Up until now I’ve been discussing how to use tax deductions and credits to reduce the amount of federal and provincial tax you pay, but you also want to take advantage of tax shelters.
Tax shelters prevent your earnings—interest, dividends, capital gains—from being taxed from one year to the next. Without a tax shelter, interest, dividends or realized capital gains will increase your income and the amount of tax you have to pay. If the growth occurs in a tax shelter, the income usually does not need to be reported. A common and popular tax shelter is a registered retirement savings plan (RRSP), which also provides you with a tax deduction. Through the deduction and subsequent refund, you will have more money to invest. While the money is inside the RRSP (or, after age 71, a RRIF) it is compounding tax-free. You are not taxed on your earnings as they occur, which means your RRSP grows faster than a taxable account would—a massive benefit which I find is poorly understood. Other commonly available tax shelters include tax-free savings accounts (TFSAs), registered education savings plans (RESPs), first home savings accounts (FHSAs) and life insurance.
