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The end of the year is often a busy time as individuals and business owners head into the holiday season. This is also the ideal time for Canadians to review their financial situation and implement tax-efficient strategies that may grow and protect their wealth.
Financial decisions that should be reviewed, and executed on, by Dec. 31, include:
-donating to charitable organizations
-splitting income with family members
-managing unrealized capital gains and/or losses in your investment portfolio
-contributing to tax-free savings account (TFSA), a registered education savings plan (RESP), and/or a registered disability savings plan (RDSP)
-converting your registered retirement savings plan (RRSP) to a registered retirement income fund (RRIF) if you turn 71 years of age this year
For business owners, decisions about remuneration, capital investments and, perhaps, how best to benefit from government incentives, should also be made by the end of the tax year.
Making certain financial decisions in one year may affect your taxes payable in the current year and subsequent years and may help to build more wealth over the long term.
Too often, she says, individuals discover they missed out on tax planning opportunities that could have enhanced their financial situation when wealth planning professionals review their individual and corporate tax returns in the following year, when it may be too late.
“This is the time to step back and measure your progress,” he says. “From there, you can do any necessary fine-tuning or make changes to enable you to progress towards those goals before the end of the year and into the following year.”
He encourages investors to work with their professional advisors on the best actions to take, such as topping up a TFSA, withdrawing more from an RRIF or adding more funds to an RESP or an RDSP.
“You need to review your finances and gather the necessary information to make year-end decisions that are best for you,” he says.
Year-end income and investment planning
The end of the year is when people should reassess their income and investments to see if changes are required to gain tax efficiencies, says Mark Skeggs, vice-president of wealth planning at Gluskin.
For instance, he says some families may benefit from income splitting, which is transferring the income of a family member in a high tax bracket to a family member in a lower tax bracket to reduce the household’s overall tax exposure.
Income splitting may be particularly helpful during volatile times, such as most recently during the COVID-19 pandemic, when many people lost income due to government-mandated business shutdowns, Skeggs notes.
“It’s an opportune time to review the family’s overall income and determine if there are ways to optimize a lower marginal tax rate this year,” he says.
There are several income-splitting options for couples and parents, including spousal loans, spousal RRSPs and pension income splitting, as well as prescribed rate loan family trusts, each of which is discussed more in this article.
People may also want to review their investments towards the end of the year and decide if they want to sell based on changes in market value, Skeggs says.
For example, if an investment has increased in value dramatically, an investor may wish to sell and pay the capital gains tax in the same calendar year. On the flip side, if the investment has dropped in value, the investor may wish to take advantage of tax-loss selling, which enables them to offset the loss against any gains in the same tax year.
Even if you have an plan in place, you need to keep up with the changing assets values and circumstances. If you haven’t, what modifications do you need to make to ensure that your planning remains effective and efficient?”
Capital losses can be carried back three years, notes Harding, “so there is some flexibility with your returns.”
Harding says investors should speak to a qualified tax advisor before embarking on a tax-loss selling strategy to ensure the planning is right for them.
Year-end insurance and estate planning
The end of the year is when individuals and business owners should consider reviewing their insurance and estate planning needs and documents.
For instance, if the value of assets such as real estate, an investment portfolio, or operating businesses, have gone up (or down), it may require more (or less) insurance coverage, Skeggs says.
“From a risk management perspective, it’s about revisiting where you stand,” Skeggs says.
Insurance coverage may need to be adjusted for estate planning purposes; for example, if a life insurance policy was put in place to equalize the distribution of assets among beneficiaries and if the value of the assets went up, the insurance coverage may also need to be increased to maintain the desired equality.
“Even if you have a plan in place, you need to keep up with the changing assets values and circumstances. If you haven’t, what modifications do you need to make to ensure that your planning remains effective and efficient?” Skeggs says.
The end of the year is when we encourage you to review your overall estate plan, adds Chan. For instance, if there were any new additions to the family in the year, or a change in marital status, this should prompt a review of your power of attorney and wills to ensure the executors and beneficiaries are the same people you wanted them to be when you drafted the documents.
“It’s important to review and update your estate documents regularly to make sure they are current,” Chan says.
Year-end business owner planning
The end of the year is when business owners should consider reviewing their operations and what spending or saving they may wish to do before Dec. 31.
For instance, Skeggs says someone who has recently sold a business could be facing a significant tax bill, even after applying the lifetime capital gains exemption.
“Whenever someone has a significant tax liability, we’d look at it and say, ‘are there strategies or options available that may position the individual in a more tax-efficient way.”
For instance, a business owner may decide to make a charitable gift in the year the sale occurs and receive a charitable donation tax receipt.
In some cases, the business owner may wish to set up an individual pension plan or retirement compensation agreement to reduce the corporate tax payable in the year of the sale.
For existing business owners or entrepreneurs, year-end is also when to consider whether to pay out a bonus, adds Chan.
“Business owners should review the business performance and determine if a bonus makes sense,” he says.
The advantage from a tax point of view, Chan says, is the bonus is deductible in the year it’s accrued, as long as it’s paid within 180 days of the corporation’s year-end.
“There is the ability to have a corporate deduction now and receive the personal income in the following tax year. That’s a nice tax benefit to take advantage of,” he says.
Business owners can also assess at the end of the year if they can pay themselves more in salary and/or dividends, depending on how the company performed and their personal income needs.
Take time now to plan for a better future
While the end of the year is hectic for many, spending the time to ensure your financial and business affairs are in order can have long-term benefits, Harding says.
It helps individuals and businesses owners be financially accountable to their goals and prepare for the year ahead.
“It means making a time commitment so that you are on the right path and optimizing tax-efficient strategies that may grow and protect your wealth,” Harding says. “Then you can sit back and enjoy the holiday season with the peace of mind that you have a plan in place.”