Do you feel you are paying too much taxes? If yes, then the following ideas may alleviate some of your pain next year:

1. Hire your family members
Consider hiring your spouse and children and paying reasonable amounts for services they render. Prepare job descriptions outlining the services they provide. Also, pay your family on the same frequency (weekly, biweekly, etc.) and by the same method (cheque) as you would for any other employees. The family member should deposit their salary in their own separate account.

Hence, payroll deductions should be deducted and remitted along with other amounts withheld from non-related employees. An employee working for a related employer may qualify for an employment insurance exemption. However, you must apply for a ruling from Canada Revenue Agency for such an exemption. If you are paying salary of $39,000 to one of your family members, you could be saving over $1,700 each year.

The salary paid to family members could affect any government assistance they receive including Old Age Security (OAS), student loans, Guaranteed Income Supplement (GIS) and disability income.

2. Deduct your home mortgage interest
For sole proprietors and partners who have accumulated value in their practices, you may be able to arrange your banking affairs differently to make your home mortgage interest deductible. With a home mortgage of $500,000 at 4%, you could enjoy an annual savings of $9,000 (assuming top marginal tax rate) by converting non-deductible interest into business expenses.
3. Loan to your spouse
Consider loaning funds to your lower income spouse for investment; however the loan must be at the ‘prescribed interest rate’. The first quarterly interest rate for 2005 is 3% per year for loans made in the first quarter (second quarter interest is normally posted at around mid March). The loan to spouse would be suitable if that person can achieve a higher return on the money invested than the interest he or she would pay you. The loan should be properly documented. The interest received from the lower income spouse is taxed in the higher income spouse’s hand and the income earned (net of the interest paid) is taxed in the lower income spouse. Interest on such loans must be paid no later than January 30 of the following year.
4. Incorporate your practice
If you are operating as a sole proprietor or a partner in a dental partnership, please consider:

Professional Corporation (PC)
Certain provinces, including Ontario, allow dentists to incorporate their practice. This is called a Professional Corporation (PC). In Ontario, for fiscal year ending December 31, 2005, the first $300,000 of taxable income (revenue minus expenses) is taxed at 18.62%. PC is usually suitable if the dentist has little personal non-tax deductible debt such as a home mortgage and can therefore afford to leave the after-tax profits inside the corporation for investment purposes. One argument for establishing a PC, is that practice debt can be repaid with after tax PC dollars which were taxed at the low rate of 18.62%.

With certain non-calendar year-ends, the PC can declare bonuses and realize a tax deduction in the current year, while the recipients of these bonuses will be paid and taxed in a subsequent tax period. Secondly, by adjusting the salary and dividend mix, the dentists could reduce the annual tax bill. Thirdly, profits can be left in the PC and used to buy dental equipment and/or the building in which the dentist practices. If shares of a PC qualify for the $500,000 capital gains exemption, then the dentist will save taxes when the shares are sold, as the first $500,000 of capital gains on these shares will be completely tax-free if certain conditions are met. Additionally, upon your death, your PC can pay a $10,000 death benefit to your loved one and receive a tax deduction for this payment. The recipient of the $10,000 death benefit will receive this amount tax free. Ensure an employment contact between the dentist and the PC is prepared to reflect this death benefit. Finally, ensure double wills are prepared. One will should be for the PC shares only and another for your other assets. This will save probate fees. If your PC shares are worth say $1 million, then more than $15,000 in probate fees will be saved.

Watch for Part II, Tax Saving Ideas – numbers five to nine – in the next issue of Professional Advisory.