Since April 1, 2009, high net worth families have been able to
take advantage of one of the greatest tax saving opportunities: the
1% prescribed rate spousal loan. Canadians are permitted to make a
loan to a spouse at a rate of 1% per year, with the rate being
locked-in for the life of the loan. These rates are calculated by
taking the average yield of Government of Canada 90-day Treasury
Bills rounded to the next highest percentage point and are set each
Based on July data released by the Bank of Canada, it is
expected that the CRA will announce that they will be doubling the
prescribed rate to 2%, effective as of October 1, 2013.
With only weeks before the rate increase, you should consider if a
spousal loan can bring you significant tax savings, and if so, you
must act quickly.
Spousal loans are simple in concept. Where there is a
higher-earning spouse (including a common-law partner) in or near
the top tax bracket, he/she can attribute capital to the
lower-earning spouse through a loan that the lower-earning spouse
must invest (documentation is required). This tax strategy
potentially could yield tax savings amounting to thousands each
Consequently, the borrowing spouse is generally taxed (at a
lower rate) on the investment income generated from the borrowed
funds. By January 30th, of the subsequent year, the borrower must
pay back the 1% interest, an expense that is deductible for the
borrowing spouse but taxable to the lending spouse. Investment
earnings in excess of the prescribed rate will effectively be
shifted and taxed in the hands of the lower-income spouse. The net
effect is that the overall taxes for the family are reduced. This
strategy may be most effective after the higher-earning spouse has
already maxed out his/her RRSPs and TFSAs, and is looking for
non-registered investment vehicles.
Let us illustrate by way of an example where the wife is in the
top tax bracket and the husband has very little income. The wife
lends her husband $100,000 that is currently earning a 6% return.
The money is loaned at 1%, or $1,000. The husband would report
income of $6,000 on his return with a deduction for the interest of
$1,000 leaving $5,000 of taxable income. On the flip side, the wife
would report the $1,000 of interest income versus the $6,000
reported in previous years. Effectively, this shifts $5,000 of
income (or 5%) from the wife's return to the husband's
return where it is now taxed at lower marginal rates.
As can be seen by this example, entering into an
income-splitting loan arrangement with your spouse can provide
significant long-term tax benefits to your family, with the more
money that is lent, the greater the benefit. With the prescribed
rate at its lowest possible level, and its forecasted hike on
October 1, 2013, now is an optimal time to enter into such an
Since the rate of the loan can be locked in
indefinitely, eligible Canadians have until September 30, 2013 to
lock-in the 1% rate. For this reason, all lending
agreements must be finalized before this time. This should include
consulting a tax professional who will review your agreements to
prevent adverse tax consequences as a result of a poorly structured
plan or implementation.
Time is running out on the 1% spousal loan strategy. Act before
the prescribed rate raises and take advantage of the
income-splitting tax benefits, which are still available. Do not
wait until it is too late and the honeymoon is over.
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.
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