We have all heard the adage that there are two certainties in life: "Death and Taxes." So long as we are alive, we might as well come to accept taxes as a permanent part of our lives. This article outlines the five most common errors taxpayers make, so you don't have to make them.
1. Ignore asset location when making investment decisions.
By disregarding where your investments are located from a tax perspective, you pointlessly pay more taxes. Generally, investors are well advised about diversifying their portfolio among various asset classes. However, many investors fail to consider where their investments are located from a tax position. The true measure of an investor's success is determined by his or her after-tax return.
For example, being tax smart requires considering how your investment income will be taxed. If the funds are in a registered account such as a Registered Retirement Savings Plan ("RRSP") or a Tax-Free Savings Account ("TFSA") the funds will (hopefully) grow on a tax-free basis. However, if the funds are in a non-registered account, then any interest, dividends, and capital gains you earn will be taxable to you at your marginal tax rate.
Alternatively, if the investment income is earned in a non-registered account, then each of the above forms of income will be subject to different tax treatment at varying tax rates. If you are living in Ontario and in the top marginal tax bracket (earning more than $128,800 in 2011), your tax rate is 46.41% on interest, 28.19% on eligible dividends (which are dividends received from public Canadian corporations), and 23.21% on capital gains. (The rates vary depending on which province you live in).
Tax-efficient investors generally are well advised to keep their income-producing investments like GICs, bonds and dividend-paying stocks in their registered accounts; while keeping their riskier capital gain-producing stocks and mutual funds in non-registered accounts where the gains are only half-taxable.
2. Fail to keep proper records and ignore information requests from tax officials.
Remember that the Canada Revenue Agency ("CRA") has the authority and right to ask for supporting documentation for any number you report on your tax return. You don't need to provide all of your business receipts to your accountant when he prepares your return, but you do need to hold on to all of the supporting documents in case you're ever asked for them. As well, make sure receipts for meals state who attended the meal and the business purpose of the meal (e.g. client meeting with Mr. Smith), keep a log of the business use of your car, etcetera. Also, be sure to forward any CRA correspondences to your tax advisor as soon as you receive them. This will ensure that if any action is required, your accountant will have plenty of time to respond.
3. Don't do year-end tax planning with your tax advisor - assume you know everything there is to know about taxes.
Meeting with your tax advisor before December 31st is probably a good idea. During these discussions, you can communicate how the year has been, express any concerns or issues you may have. As well, meeting with your tax advisor throughout the year allows him/her to consider any relevant tax-planning opportunities for your particular tax situation.
For example, some common year-end tax techniques include selling investments in order to realize losses and consequently offset any realized gains during the year. If you are an owner-manager, it's crucial to discuss tax-efficient methods of taking remuneration from your corporation (i.e. to take salary versus dividends). With our declining corporate tax rates, the previous advice of always "bonusing down to the Small Business Deduction limit" is no longer automatically correct. It is also important to make sure you know exactly how much you can contribute to your RRSP so you can claim an RRSP deduction.
4. Wait to send your tax information to your accountant the week before the filing deadline.
As much as we may believe otherwise, accountants are human too. As such, if you send your tax information at the end of busy season, your accountant may be mentally fatigued, exhausted and nearing burnout. Get your tax information organized early; it is highly advisable to send your information to your accountant as soon as you receive it. This way your tax return will be prepared and reviewed by alert eyes. He will have the time to review your tax situation in more detail and possibly identify future tax planning opportunities.
5. Make your accountant's life as difficult as possible - BE DISORGANIZED!
Time is money. Instead of putting all your receipts in a shoebox, take the time before to review and make everything as clean and organized as possible. For example, provide schedules totaling your donations, medical, childcare claims, etcetera. If you sold any securities in the year, provide your accountant with a realized gain/loss statement so he can simply report your net gain or loss for the year as opposed to trying to decipher what proceeds, cost and consequent gain or loss was on individual securities. Most financial institutions can provide you with a realized gain/loss statement at no cost. It's simply a matter of being proactive and making a phone call or sending an email request.
Following the above advice will save you professional fees. As well, it will make your accountant's life that much easier, this means your accountant will be happier and this will enhance your professional relationship.
So even though we know death and taxes are the only certainties in life, the least we can do while we're still here is live life to the fullest and file our taxes efficiently! Follow these five tips for what not to do and you will be right on your way to paying less tax and consequently living a fuller, happier life.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.