Are you married?
If so, did you know that you enjoy certain tax benefits that your single counterparts do not?
As a general rule, spouses can share investments, tax deductions, and other such goodies with one another. It allows the two spouses to lower their combined tax burden by transferring income to the lower earning partner. While a single Canadian earning $250,000 is going to be paying a ton of taxes, a married Canadian earning $250,000 or a spouse earning $30,000 can transfer a lot of his/her income to the lower earnings spouse, lowering their combined tax burden.
Or at least, that’s how it has worked for most of Canada’s history. In 2019, the Federal Government cracked down on income splitting, and now there are fewer ways in which it can be done. In general, split income is now taxed at the higher earning partner’s marginal tax rate. There are exceptions, such as transferring 10% of shares in a business to the lower earning partner. But it’s mostly business owners who benefit from income splitting today.
There’s no need to fear, though. There are still plenty of arcane rules in the tax code that allow married couples to lower their tax bills. In this article, I will explore one such rule that survived the Federal Government’s 2019 crackdown on income splitting.
The spousal RRSP contribution tax break
The spousal RRSP contribution tax break is a rule that allows the higher earning partner in a couple to make contributions to the lower earning partner’s RRSP, and have the contributions count against the higher earning partner’s limit. Higher earning people have higher RRSP contribution limits. The absolute maximum an annual RRSP limit can be is $30,780. So, let’s say you’re earning $250,000 and your partner is earning $20,000. Your limit will likely be $30,780 while your spouse’s will probably be something like $3,600.
How much you could save
RRSP contributions lower your tax bill. To go with the example started above: let’s say you make $15,780 in contributions to your own RRSP, then $15,000 to your partner’s RRSP. Your partner can still make his/her $3,600 contribution, in which case your partner gets $18,600 in RRSP money, but most of the tax refund goes to you, so you save more on taxes than two cohabiting unmarried partners would by doing the same thing. Specifically, you save $15,390 (assuming a 50% marginal tax rate) and your partner saves $720 (assuming a 20% marginal tax rate). An unmarried couple could achieve similar tax savings by maxing out their own accounts, but could not do so with the $15,000 transfer. In other words, assuming the higher earning partner has room left over after funding his/her account, the spousal contribution rules facilitate savings, while allowing the lower-earning spouse to achieve a higher RRSP balance.
Don’t just make RRSP contributions… invest them!
Once you’ve made your RRSP contributions, you should invest the money. Good investments include index funds, GICs, and bonds. Dividend stocks are especially popular. Consider Royal Bank of Canada, (TSX:RY) for example. It’s a Canadian bank stock with a 4.3% dividend yield. If you hold RY stock in an RRSP for 30 years, you pay no dividends or capital gains taxes on it. This is a big advantage because, with such a high yield, RY stock could result in huge tax bills for its holders. Capital gains tax can be avoided by not selling, but dividend taxes have to be paid in any account that’s not an RRSP or TFSA. So, if you’re going to be making RRSP contributions, consider investing the money in dividend stocks like Royal Bank. The savings can be incredible.
