May 2016
Overlooked Tax Saving Strategies in Canada
If you thought investing in offshore tax havens like Panama was a good idea, now is the time to consider the myriad of avoidable perils, pitfalls, and personal problems you may face as a Canadian along with the much better tax-saving strategies available.
I am, of course, referring to the notorious Panama Papers, a giant leak of more than 11.5 million pages of financial and legal records amassed by the huge Panama- based law firm, Mossack Fonseca.
Shrouded in secrecy until 2016, more than 200,000 secret accounts from tax-phobic clients in more than 200 countries were revealed. And while it may sound so far away, we Canadians weren’t immune.
Our National Revenue Minister at the time, Diane Lebouthillier, announced she would put more auditors to work tracking down offshore money owned by fellow taxpayers. The Royal Bank of Canada, our largest bank, was asked to provide sensitive information on clients with links to the law firm at the heart of this growing scandal.
In light of the subsequent rise in tax code enforcement, let’s look at some legitimate tax saving strategies for high-income earners in Canada.
Top Tax-Saving Strategies for High-Income Earners in Canada
Generally unknown to high income earners is the existence of many smart and legal tax-saving strategies in Canada. That’s right, you don’t need to move your money offshore! Let’s take a look.
Registered Retirement Savings Plans (RRSPs)
As a high income earner in Canada, you likely qualify for the maximum RRSP deduction, which is currently $27,830.
In other words, you’d have the opportunity to reduce your taxable income by that much, which could just bump you into a much lower tax bracket. Plus, you’d be able to grow that money in your RRSP tax-free by investing it in assets such as the stock market.
Tax-Free Savings Accounts (TFSAs)
Another common tax-saving strategy in Canada is the TFSA. The biggest advantage of investing in a TFSA is the ability to grow your assets tax-free, and access them tax-free.
There’s only one downside - the deposit limit is a maximum of $6,000 annually. We have a solution to that problem.
No-Limit TFSAs are available for Individuals and Corporations
TFSAs are great savings vehicles, everyone should have one.
We have a great solution to the maximum deposit limit of only $6,000.
No-Limit TFSA For Your Company
Individual Pension Plan (IPP)
An IPP is one of the most effective Canadian tax saving strategies for high income earners looking to create a much larger nest egg than an RRSP would allow.
IPPs offer many tax benefits, particularly when it comes to transferring your assets to the next generation. As I discussed in this article, IPPs are ideal for incorporated professionals and business owners between the ages of 40 and 71 with annual T4 income greater than $100,000. An employer looking to enhance retirement benefits for a key employee should consider using an IPP.
Done right, an IPP can be one of the most rewarding tax-saving strategies for high-income earners in Canada.
Income splitting
Income splitting is another favourite Canadian tax saving strategy among high-income households. It involves redirecting your income within the household.
For example, you could open a TFSA or RRSP for everyone older than 18 and make tax-advantaged contributions. Some high-income taxpayers also loan money to their spouses at a defined interest rate to generate business income.
The right income splitting approach will depend heavily on your financial situation and that of other household members.
Life Insurance
Other than lottery winnings, your primary residence, and Tax-Free Savings Accounts (TFSAs), life insurance is an ideal tax-free vehicle still available to everyone
You can use life insurance in unexpected ways. That includes wiping out a debit shareholder loan account, obtaining tax-exempt funds from a corporation, funding retirement income, and providing a death benefit at no cost to the shareholder. The funds can be from retained earnings, income, or the amount left in the corporation from a capital gain.
Life Insurance: Canadian vs. Foreign-Bought
Let’s examine life insurance further. Specifically, let’s discuss what happens when you buy it in Canada vs what happens when you buy it outside the country.
As a start, if you want to get life insurance outside the country, the application must be completed and signed outside Canada. If a company tells you it can be done here, buyer beware - it means the insurer is operating in Canada without a license and the insurance broker is selling you a policy from an unlicensed insurer.If you have to complete any other documentation in the course of buying the insurance outside the country, you again have to do it all outside Canada -- even the policy itself must be delivered to the policy owner outside Canada.
So what’s the advantage to all this secrecy? Nothing. A policy issued in Canada actually includes the benefit that with a preferred beneficiary, it’s protected from creditors. If the policy is acquired outside Canada the cost of getting the policy is typically far greater than any savings in the cost of insurance. Policies with a cash value have the same constraints as above – and some additional problems.
Tax Risks
Under the Income Tax Act, policies with a cash value – and issued in Canada – must comply with tax regulations and the maximum amount of cash that can build up tax-free. If the policy exceeds that amount, it’s no longer tax-exempt and the cash buildup in the policy becomes taxable.
Outside the country, an insurance company probably doesn’t have the same restriction and that means that any increase in the policy value is taxable. When Canadians report their income tax, they have to report worldwide income, and that includes an increase in the policy value. In fact, the tax has to be paid even if they don’t receive any of the funds. If the policy value increase is not reported, it is considered tax evasion and runs the risk of penalties and even jail time.
Currency Risks
Since most offshore policies are issued in U.S. dollars, let’s not forget the exposure to currency risk.
As we all know, the exchange rate between the loonie and the greenback has been subject to major fluctuations. The Canadian dollar dropped as low as US$0.62 back at the beginning of 2002 but was recently pegged at US$0.80. Even if you bought a policy today with the U.S. dollar, you would end up paying Cdn$1.25. Worse, if the dollar dipped back to the 2002 levels, you would have to pay Cdn $1.61. If the policy has a cash value, the same would apply to any taxes on the increase in the value of the policy. Keep in mind that in the case of a Canadian policy with a cash value, there no tax payable up to stipulated maximums.
Credit Risks
Let’s not forget just how strictly regulated and creditworthy our insurance companies are here in Canada. It is a regulatory requirement that all insurance companies here be a member of Assuris, a not-for-profit organization that protects Canadian policyholders should their life insurance company fail. Specifically, it protects policyholders by minimizing the loss of benefits and ensuring a quick transfer of their policies to a solvent company where their protected benefits continue. If a life insurance company fails, Assuris guarantees that on transfer, policyholders will retain at least 85% of the promised insurance benefits. Insurance benefits include death, health expense, monthly Income, and cash value. As a matter of fact, no one has ever lost money on a life insurance policy issued by a Canadian insurer.
If you decide to buy offshore, it’s up to you to do the legwork on how financially viable the company is and determine whether it’s worth your time, cost, and aggravation to buy a life insurance policy outside of the country. Your due diligence should include examining how the prospective company stacks up with Standard & Poor's. Investigate whether the host country has an Assuris counterpart – chances are it doesn’t.
Peace of Mind
Getting your life insurance in Canada will give you peace of mind knowing that:
• Your money will stay in Canada, where you can see it, touch it, feel it and smell it
• Your policy will be Income Tax Act compliant
• Corporate deposits paid into the policy grow tax-free
• Large annual deductions are provided each year against income for the rest of your life
• Your savings are protected from creditors
• When you die the insurance proceeds will go to your beneficiaries tax-free.
• With a corporate or personal permanent tax-exempt Canadian policy, you will have a cash-on-cash tax-free return every year and access to funds for retirement or investing.
Keep your guard up if you are approached to buy your life insurance offshore. Be suspicious.
There are many safe and profitable home-grown insurance solutions that will easily solve many of the tax, estate, and planning issues that previous generations sought to avoid by going offshore, but now only find themselves in an international quagmire of currency risk, negative stigma, and the potential for committing tax evasion
• Access to Professionals
Another benefit of remaining in Canada is having ready access to many reputable and experienced professionals knowledgeable about life insurance and estate planning. Accredited professionals in Canada complete extensive training, belong to industry organizations with strict codes of conduct, and take continuing education courses throughout their careers.
Contact WEALTHinsurance.com for Information About These Tax-Saving Strategies for High-Income Earners in Canada
Proceed with caution. Proper estate planning and tax minimization is not a do-it-yourself project and requires professional help. Seek advice from an impartial and experienced team that includes your accountant, lawyer, and a Certified Financial Planner or Trust & Estate Professional.
Contact us for a no-obligation consultation, our advisors across Canada are available to help you.