2000 Year-end Tax Checklist
As another year draws to a close, Canadians' thoughts are more likely focused on the holidays than on taxes and financial planning. But more than just Christmas shopping needs to be completed. And this year, there are some added tax twists you should be aware of. As always, you may want to check with a professional advisor before making any investment or tax-related decisions. But this article can serve as a guide to some year-end tax moves that may be appropriate for your particular situation.
With that in mind, here are some tax planning strategies and must-dos that have year-end deadlines:
If You're an Investor
There's no doubt about it. This year has been a turkey for many stocks, especially technology stocks. December is prime tax-loss selling territory. But before you dump your dogs, here are some points to consider:
Experts agree that you shouldn't sell an investment for a loss just for tax reasons. Any decision like this should be part of a broader investment decision that looks at your particular circumstances, investment objectives, and overall portfolio.
Capital losses can only be written off against capital gains. Long gone are the days when you could deduct capital losses from regular income. But capital losses can be carried back three years and applied against earlier capital gains. Or they can be carried forward indefinitely.
But this year, capital losses carried forward will not be worth as much because they're offsetting gains at a lower rate. That's because tax rates are going down in 2001.
That theme runs through this article. All things being equal, when tax rates are declining, it makes sense to postpone taxable income to the new year and apply tax credits, deductions and other writeoffs to this year.
Tax advisers we consulted also warned people to beware of the Income Tax Act's "superficial loss" rule. If you sell a security for a loss and rebuy the same security less than 30 days later, the loss will not be recognized for tax purposes. One exception to this: if you sell a security at a loss and then your RRSP immediately buys the same security, the loss will be allowed. Just be sure you don't directly transfer the security into the RRSP. A capital loss can't be claimed in that case.
Be aware that, for tax purposes, December 22 is the last day to sell a security on a Canadian exchange and have it count as a year 2000 sale. That's because it takes 3 business days for most stock transactions to "settle". For U.S.-listed securities, the deadline is December 26.
On the other hand, if you have securities with accrued capital gains, you might want to hold off on selling until the new year (less tax and it won't be due for another year).
Investors in some equity mutual funds (bought outside a tax-sheletered vehicle like an RRSP) may want to hold off on buying until the new year (as long as you think the fund won't soar in value in the meantime!).
That's because many equity funds pass along any realized capital gains, interest or dividend income to their investors only once a year, usually in mid-to-late December. Buy just before that distribution and you'll pay tax on gains you didn't make (after all, you just bought the fund). The unit price then falls right after the distribution. It is true that this distribution will boost your adjusted cost base, so you'll pay less tax when you eventually sell. But that could be years away.
And while you're doing all this thinking about capital gains and losses, now would be a good time to start getting your paperwork in order. If you're a frequent trader, tax filing will be a lot more complicated than usual next April.
That's because the federal government reduced the taxable capital gains rate not once, but twice this year; first in its February 27 budget and then in its October 18 mini-budget.
So there are three capital gains taxation rates for the 2000 calendar year: 75 per cent of capital gains are taxable for transactions made from Jan. 1, 2000 to Feb. 28; 66.6 per cent for transactions between Feb. 27 and Oct. 18; and 50 per cent for all transactions after Oct. 18.
Gains and losses must be calculated separately for each period. KPMG has a "2000 Capital Gains Tax Wizard" on its Web site, that can help you calculate your effective capital gains inclusion rate quickly.
The higher your capital gains inclusion rate, the more you may want to trigger a capital loss this year to offset that gain.
Like GICs? If you buy a 1-year GIC with one annual interest payment, it makes sense to buy it in January. That way, you won't get your interest until January 2002, and you won't have to pay tax on that money until the spring of 2003. Buy this month and you'll get the interest just month earlier, but will have to pay tax on it a year earlier.
If You're a Parent
If you want to contribute to a Registered Education Savings Plan (RESP), make that contribution before December 31. Some people still think that RESP deadlines are the same as RRSP deadlines (March 1, 2001). If you don't make that RESP contribution before the end of the year, that contribution room is lost forever. There's no carry forward allowed.
The maximum contribution is $4,000 per year per child. And while the contribution is not deductible, the federal government does offer a 20 per cent grant (maximum $400 per child) on the first $2,000 of contributions. To claim the grant, though, the child must have a Social Insurance Number. Now would be a good time to apply.
Also, be sure to pay all your child care expenses by year's end and get a receipt. You can claim up to $7,000 of your child care costs for each child under age 7 as of December 31. For children 7 to 16, the maximum deduction drops to $4,000. Generally, the parent with the lower income claims the deductions. And don't forget that babysitters and summer camp qualify (although camp cost deductions can be deducted only up to $150 per week for the under-7 crowd and $90 per week for older kids). The key test is that child care costs can be claimed only if they're incurred to earn income.
If You Own a Small Business or are Self-Employed
People who are self-employed can often control how they're paid and when. And that's where they can use tax laws to their advantage.
There's more flexibility if you have your own business because you can set your own revenue schedule. If possible, that self-employed individuals should hold off signing big revenue-generating contracts until January 2001.
Deferring income to 2001 will generally result in paying less tax than you would this year. For one thing, you won't need to pay tax on deferred income until you file your taxes in 2002. That's because you actually received the income in 2001, and that's what counts-- not when you earned it. But this year, there's an added incentive to postpone income because income tax rates are going down effective January 1. The federal high-income surtax (for people with income greater than $85,000) is also being eliminated as of the new year.
Since deductions will provide more tax savings this year than next, consider purchasing business assets, pre-paying deductible expenses and making use of any loss carryovers this year.
Business owners whose children work in the business can be paid a salary before year-end. The wage has to be "reasonable based on the work done," but it's an effective way of transferring income from the parents to the children. Since children don't usually have any other income, they'll pay little or no tax. This expense is also deductible for the business owner.
And if you pay your taxes by installment, remember that the last installment for the 2000 tax year is due by December 15. Pay your installments on time and you'll avoid interest charges and penalties.
If you Donate to Charities
You must make charitable donations prior to December 31 in order to claim them as part of this year's tax return. A donation entitles donors to a two-tier tax credit. Because federal tax rates are falling, the credit is worth more in 2000 than thereafter.
The first $200 in donations provides a 17 per cent federal tax credit (worth about 25 per cent when provincial tax reductions are factored in). Anything above $200 has a 29 per cent federal tax credit (worth about 45 per cent when provincial tax is taken into account). So it makes sense for a couple to pool their donations and have the higher income spouse claim them all.
Securities can also be donated to a charitable organization. And there are real benefits to donating securities directly to the charity. If you sell a stock, bond, or mutual fund that's gone up in value, you'll have to include 50 per cent of the capital gain in your income. But if you donate the security directly to the charity, the last mini-budget reduced the capital gains tax you'll pay to preferential tax rate of just 25 per cent.
If You're Retired (or about to retire)
If you turn 69 in 2000, this is the last opportunity to contribute to an RRSP. Contributions in this instance only are due by Dec. 31, 2000, not the usual March 1, 2001 RRSP deadline.
It's also necessary to convert an RRSP into another tax saving vehicle by year's end. Since a straight cash withdrawal is unwise (you'll pay tax on the full amount withdrawn), one option is to convert your RRSP into a Registered Retirement Income Fund (RRIF). But for those looking for a steady monthly income, purchasing an annuity is also an option. A combination of strategies is also possible to ensure a tailored retirement financial plan to meet specific needs. It's best to consult with a financial planner or accountant to assess the best option for you.
If you buy strip bonds for your RRSP, buy them in December. All other things being equal, it will cost you more to buy a strip (also called a zero coupon bond) in January or February because the demand for these products in prime RRSP season often drives up prices.
Even if you're a long way from retirement, consider contributing to a spousal RRSP before the end of the year. Under current attribution rules, if a spousal RRSP is collapsed and the money withdrawn within three calendar year after you last made a contribution, the amount is taxed in the contributor's hands. So if you make the contribution this month (and don't make any more contributions), your spouse could collapse the plan as early as January 1, 2003 and have it taxed in their hands. Wait a month to make the contribution, and the attribution rules will be in effect for another year.
------------------------------------------------------------------------------------------------------------ This article was prepared with the help of Heather O'Hagan, senior manager with the national tax group at KPMG; Leigh Vyn, tax manager with the WaterStreet Group; and Gena Katz, principal at Ernst & Young.
------------------------------------------------------------------------------------------------------------- Quick List: Tax Deadlines for Everyone
Amounts that must be paid by year's end to claim them as 2000 tax credits or deductions:
- Child care expenses
- Medical expenses
- Alimony and maintenance payments
- Charitable contributions
- Political contributions
- Moving expenses
- Investment counsel and accounting fees
- RRSP contributions for those turning 69 in 2000
- Safety deposit box fees Tuition fees for yourself