Canada Customs and Revenue Agency (CCRA or “tax department”) announces its prescribed interest rates quarterly for each calendar year. CCRA’s prescribed interest rate for the 2nd quarter commencing April 1, 2003 is 3%.
This is an opportunity for the richer spouse to lend money to the poorer spouse at a rate of 3%. The poorer spouse can use the loan proceeds for investment purposes. As long as the interest is paid by January 31 of each following year, the investment income earned will be taxed in the poorer spouse’s hands at the lower tax rate. Provided the poorer spouse can generate an investment return greater than 3% annually, this will result in greater tax savings to the family.
To take advantage of this opportunity, the loan must commence in the calendar quarter ending June 30, 2003. The prescribed interest rate (3%) remains fixed for the duration of the loan even if the prescribed interest rate increases in future calendar quarters. Also, it is important to document the loan to avoid ambiguity and CCRA’s wrath.
Why is it important to charge the prescribed interest rate? To avoid onerous attribution rules levied by CCRA. In short, these attribution rules would specifically tax investment income in the richer spouse’s hands, and preclude the poorer spouse from claiming investment income at a lower tax bracket in the following scenarios:
|a)||Investment in name only: Poorer spouse’s name is on the investment but the funds for the investment came directly from the richer spouse.|
|b)||Gifting of funds: Richer spouse gives money (i.e. not a loan with prescribed interest rate) to poorer spouse to buy investment.|
Paying your spouse and kids for work done can save you significant taxes. Beware of some of the traps. Consider the following:
|1)||Prepare a job description which details all of the tasks and responsibilities which they undertake;|
|2)||Pay family members in the same manner and frequency (i.e. by cheques issued biweekly, etc.);|
|3)||Ensure payroll deductions (taxes and CPP) are deducted and paid to Receiver General by the 15th of the month following. Consider filing an appeal to have employment insurance premiums waived due to the “family status,” (i.e. Salaries paid to family members are exempt from employment insurance premiums provided an El appeal has been made and a successful ruling has been obtained. An appeal can be filed to recover the last 3 years of unemployment insurance paid by both the employee and employer);|
|4)||a reasonable amount for services rendered. One should consider industry wage surveys.|