Marital tax deductions, property rights and other tax relief options

For those interested in maximizing their tax savings, marriage can offer many benefits. Here's an overview of how to smooth out and minimize taxes owed, based on rules and marriage laws
Couple walks along beach discussing tax deductions as a married couple.
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Of all the major life changes, marriage certainly ranks as one of the biggest. Although many aspects of joining and sharing your life with a partner are fun and exciting, being married also means a need for thoughtful planning—particularly when it comes to finances. For example, many newlyweds are not aware that, when the time comes to file their income taxes, a whole new set of rules will apply. Although the changes may not seem significant, they can have a big impact on the decisions to be made surrounding joint finances.

Unlike America, Canada does not have a spousal joint filing system, which means that both spouses need to file their own, separate tax return with the Canada Revenue Agency (CRA). As is true for individual filers, spousal personal tax returns are required to be filed on or before April 30 of the year immediately following the taxation year. So the 2018 return (which takes into consideration income earned between January 1, 2018, and December 31, 2018) must be filed on or before April 30, 2019.

As one of the first requirements of the Federal Tax Return — otherwise known as the T1 General — spouses (whether same-sex, opposite, or common-law) are required to declare their marital status as of December 31st of the tax year for which they are filing. They must also include the name, social insurance number and income of their spouse.

For the purposes of tax reporting in Canada, “spouses” are defined as legally married partners (either same-sex or opposite sex), and in the eyes of the law, common law partners are also subject to the same spousal filing requirements. According to the Income Tax Acta common-law partner is defined as a person who is not your spouse, but with whom you have been living in a conjugal relationship for at least 12 continuous months. The definition also includes the co-parent of your child, whether by birth or adoption. For the purpose of the rest of this article, however, the term “marriage” will refer to legally married spouses in Canada.

Claiming tax credits

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As a married couple, you and/or your spouse may be eligible to claim certain credits which can help to reduce your joint tax burden. For example, one such credit can be claimed for supporting a financially dependent spouse whose net income falls below a defined threshold amount at any time during the taxation year. In addition, married couples may also be eligible for tax credits related to medical expenses and charitable donations.

Other non-refundable tax credits include the “Age Amount Tax Credit” for taxpayers who are 65 or older at the end of the taxation year, and the “Tuition Tax Credit,” equal to 15% of the tuition amount paid by a student to eligible educational institutions in Canada (or, in certain circumstances, to valid schools outside Canada).

All of these tax credits can be transferred from one spouse to another in order to minimize the total taxes to be paid by both of them. There are some credits, like the Canada Child Tax Benefit, which can be reduced or even lost entirely when the combined net family income of both partners is used to calculate the income threshold for the said benefits. That’s because the Canada Child Tax Benefit, like the Guaranteed Income Supplement, is geared to income and can be clawed back as you earn more income during a taxation year.

Strategies for income splitting

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Income splitting, whereby the partner with the higher income attributes their earned and passive income to the lower income-earning partner, is a common strategy that can help married spouses in Canada to minimize their tax liabilities. It results in the income of the higher earner being reduced, and thereby taxed at a lower rate, while the spouse who is earning less (or has no earnings) will now be taxed at a higher rate.

There are a number of income splitting strategies available to married couples, a few of which are described here.

  1. Registered Retirement Savings Plans (RRSPs): Extra RRSP contribution room available to the higher income-earning spouse can be used to make contributions to the RSP of the lower income-earning spouse. The CRA treats these contributions as a deduction from the income of the higher earning spouse, thereby lowering his or her tax rate. Upon the retirement of the lower-earning spouse, the funds that are withdrawn are treated as income and become fully taxable.
  2. Registered Retirement Income Funds (RRIF’s): The income derived from RIFs can be split between the married couple if both are already 65 years of age or older.
  3. Pension income splitting: With this strategy, a spouse who is over 60 years of age can share a portion of the monthly Canada Pension Plan benefits that they have earned over the course of the relationship with their spouse of any age. Up to 50% of the income that qualifies for the pension income credit can be allocated.

Tax-deferred spousal rollovers

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Married couples can also take advantage of tax-deferred spousal rollovers to minimize their taxes. While alive, a taxpayer can transfer non-registered assets to his or her spouse free of capital gains tax, although the assets will still be subject to income attribution rules.

Using an inter vivos trust: A spouse who is 65 or older can transfer their assets into a joint inter vivos trust, with his or her spouse named as beneficiary. Normally, gains from this type of property transfer to an inter vivos trust would be subject to capital gains tax. However, in the case of a joint partner inter vivos trust, no capital gains are deemed to arise from the transfer as the disposition price will be equal to the cost.

There are certain requirements though for a joint partner inter vivos trust, which include the following:

  1. The spouse must be 65 years of age or older when the trust is created;
  2. The spouse must be a resident of Canada at the time the trust is created; and
  3. The trustor and his or her spouse —and no other person—must be, in combination, entitled to receive all of the income of the joint partner inter vivos trust that arises before their deaths.

To qualify as a joint partner trust, income must be paid by the settlor and his or her spouse, and tax on such income must be paid by the settlor and his or her spouse at their respective graduated tax rates (unless a special election is made to tax the income in the trust). Also, there is a deemed realization of the assets of a joint partner trust on the date of death of the survivor of the partners, as well as every 21 years thereafter, unless an election is made to trigger an earlier disposition. Due to this deemed realization, the tax payable is calculated using capital gains tax rules — one of the more favourable taxes in Canada.

What to consider if one of you dies

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When one of the spouses dies, RRSP’s and RRIF’s can be transferred to the surviving spouse on a “tax-deferred rollover” basis—so called because the rollover generates no tax consequences and is tax-free for the surviving spouse. Tax liability will only arise when the surviving spouse withdraws the money from the RRSP or RRIF.

Testamentary Spousal Trust: A will is another vehicle whereby certain capital property can be transferred from one spouse to another without triggering any tax liabilities. This type of rollover on death can take place either through an outright distribution in the will of the deceased spouse or through a transfer to a qualifying spousal trust.

A surviving spouse can also benefit through the provision of a testamentary spousal trust set out in the will of their deceased spouse, provided that the surviving spouse is the only one entitled to receive all of the income that may be derived by the trust during his or her lifetime.

Here again, the ability to establish a testamentary spousal trust is subject to a number of requirements:

  1. The deceased spouse must have been living in Canada prior to his or her death;
  2. The spousal trust must be resident in Canada immediately after the property is transferred to it; and
  3. The property vests indefeasibly in the spousal trust within 36 months of the death of the deceased spouse. (Within this 36-month period, the vesting period may be extended at the discretion of the Minister of National Revenue.)

Tax-Free Savings Account: Individuals over the age of 18 can use a Tax-Free Savings Account (TSFA) to set tax-free money aside throughout their lifetime. Since any income derived from the TFSA account is generally not taxable, the TSFA functions as yet another option for effecting a tax-free transfer upon the death of a spouse. By being named as the “successor holder” by the owner of the account, the surviving spouse becomes the new account holder upon their death, and also inherits the tax-exempt status of the TFSA.

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Know your attribution rules

As previously mentioned, a person can easily transfer non-registered assets to his or her spouse during their lifetime and that such transfer will be on a tax-deferred basis and will not result in capital gains tax liability. In such a case, however, attribution rules would apply and any income or loss from a property which was transferred to his or her spouse would be the gain or loss of the spouse who made the transfer and not the one who received the property. There are, however, certain strategies which a person can use in order to avoid the application of attribution rules in certain scenarios.

For example, the principal residence exemption shelters all taxable capital gains on a primary residence. However, there are ways to reduce the effectiveness and increase the amount of taxes paid on the property.

Say, for instance, a married or common-law couple owned a home (whether in Canada or abroad) prior to their marriage and they continued to each own a home even after moving in together after they are married, this may reduce the availability of the exemption on both properties. Aside from this, taxable capital gains could possibly arise if one of the properties is eventually sold. This is because the principal residence exemption is only available to one family unit if the taxpayer has designated the property as his or her principal residence from 1982 onwards. The family unit referred to would include the following persons, if any:

  • The taxpayer’s spouse or common-law partner. In this case, the spouse or partner should be the same one throughout the given year. Also, they should not have been living separately and separated by judicial separation or written separation agreement from the taxpayer.
  • The children of the taxpayer who are below 18 years of age and who are not married nor in a common law relationship
  • If the taxpayer is not married nor in a common law relationship, and he or she is a minor, the following persons shall also be included in the family unit:
    • The taxpayer’s mother and father; and
    • The taxpayer’s unmarried brothers and sisters, or those who are not in a common law relationship and over 18 years of age or older during the year.

Generally, it makes sense to consider how to best smooth out the amount of tax owed over a lifetime, rather than to examine each tax-year in isolation. (It’s also wise to consider how debt, such as a mortgage, will be handled if one spouse dies.) This means determining who will be the higher or lower income earner and when it would be wise to split or transfer income or assets in order to minimize current and future taxes.

The above strategies are meant to illustrate the options available to married and common-law couples. Precise or exact advice, however, should be sought out through a professional tax expert.

John Leo Solinap
John Leo Solinap

John is a psychology graduate with a law degree. He specializes in criminal defence and prosecution, civil damage suits and other litigation-type cases.

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