The following article was written by Travis Redding:
When considering a couple’s marital status, Canadian tax legislation applies the same rules to “common-law” unions, including same-sex couples, as it does to two individuals who have been legally married. This means that couples who have been living together in a conjugal relationship for at least 12 consecutive months, or are living together in a conjugal relationship with a child, receive the same income tax treatment as legally married couples. For this reason, any reference to a spouse in the remainder of this article also refers to a common-law partner. After getting married (or becoming common-law), certain personal income tax changes may become relevant, as discussed below.
The following non-refundable tax credits (“NRTC’s”) are available to spouses on their personal income tax returns:
Pooling of charitable donations and medical expenses
Spouses may pool their expenditures for charitable donations and claim them all on one of their returns, which may result in a larger credit than if they claimed some donations on each return.
Spouses may also pool their medical expenses, which may result in a larger credit for the couple as the expenses must exceed an annual threshold in order to qualify as a reduction of taxes payable. It may also be beneficial for the couple to pool their medical expenses and claim them all on the lower-income spouse’s return, as the annual threshold is based on a percentage of the income of the spouse making the claim.
Spousal or common-law partner amount
If a taxpayer supported their spouse at any time during the year and their net income is less than $13,229 in 2020 (federal limit; Ontario limit is $9,156), they may be able to claim all or a portion of the spousal amount up to the maximum of $13,229 on their federal return ($9,156 on Ontario return).
If a taxpayer’s spouse has a physical or mental impairment, the taxpayer may be entitled to claim up to $7,276 federally ($5,082 Ontario) if their income is less than $24,361 federally ($22,470 on Ontario return).
If the taxpayer qualifies for the caregiver amount, they may also be entitled to an additional $2,273 on their 2020 federal spousal amount, as discussed above.
Transfer of unused credits
Additionally, if a taxpayer’s taxes payable in a given year are less than the credits they are entitled to, it may be possible to transfer some of these tax credits to their spouse, rather than losing them entirely if they were single. The following tax credits may be transferred to a spouse: tuition, education, and textbook amount, age amount, pension amount, caregiver amount, and disability amount.
In certain circumstances, the lower-income spouse may be able to transfer dividend income earned in the year to their higher-income spouse if the transfer increases the spousal amount claimed by the higher-income spouse. This is beneficial in situations where the lower-income spouse does not have sufficient taxes payable to claim the dividend tax credit and transferring the income would allow the higher-income spouse to claim the dividend tax credit and additional spousal amount.
Using Spousal Registered Retirement Savings Plans (“RRSPs”)
A spousal RRSP can be a useful tool in a couple’s wealth creation and retirement planning, if certain circumstances exist. Under a spousal RRSP plan, one spouse contributes to an RRSP (“contributor”) for the benefit of their spouse (“annuitant”). The contributor receives a deduction on their personal tax return for the amount of the contribution and the annuitant pays tax on any funds withdrawn from the RRSP in the future. These contributions can earn annual returns on a tax-deferred basis until they are withdrawn by the annuitant. As the contributor receives a deduction, the contributions are effectively pre-tax dollars and the couple has additional capital to invest for their retirement.
The spousal RRSP facilitates income splitting in retirement as the contributor is shifting their earned income to the annuitant and the couple is effectively sharing one pool of retirement assets. Once in retirement, the couple can determine the optimal withdrawals to make from their individual RRSPs and spousal RRSPs each year. As long as both spouses are not in the highest marginal tax rate (i.e. annual income in excess of $220,000, based on Ontario rates in 2020) splitting the income between them in retirement should result in a lower marginal tax rate for the couple.
The advantage of wealth creation through tax savings is compounded further when the contributor is at a higher marginal tax rate than the annuitant will be when the funds are withdrawn in retirement. This is because the tax savings from the deduction that the contributor receives today should be higher than the tax cost realized when the annuitant pays tax on the withdrawals during retirement.
Although an individual cannot contribute more than their annual deduction limit to a spousal RRSP, they can continue to contribute to the plan even if they are past retirement age, as long as the annuitant would be young enough to contribute to an RRSP.
Minimizing Registered Retirement Income Fund (“RRIF”) Withdrawals
Taxpayers must convert their RRSP to a RRIF by December 31st of the year in which they turn 71, regardless of whether they need the regular income. Furthermore, they must start withdrawing money from their RRIF in the year after it is opened. The federal government determines a taxpayer’s annual minimum withdrawals based on their age and a percentage of the market value of their RRIF. A couple may be able to decrease the taxable minimum withdrawals from their RRIFs by basing the withdrawals on the age of the younger spouse, which could provide a longer tax deferral period.
Pension Income Splitting
Taxpayers may transfer up to one half of their eligible pension income to their spouse on an annual basis. This form of income splitting is advantageous when a higher-income spouse can transfer some of their income to a lower-income spouse and effectively reduce the marginal tax rate of the couple. Pension splitting also allows for both spouses to access the pension amount in their NRTC’s, which can result in additional tax savings.
Eligible pension income is a complex topic and the types of pension income that qualify varies when the transferring spouse is less than 65 years of age or 65 years of age or older. Therefore, it is recommended taxpayers seek the advice of a tax professional when determining if their pension income qualifies for income splitting. Pension income from a government pension, such as Old Age Security (“OAS”), Canada Pension Plan (“CPP”), and lump sum withdrawals from an RRSP do not qualify as eligible pension income and cannot be split with a spouse.
Tax-free Spousal Rollovers
When a taxpayer dies, they are deemed to have disposed of all their assets at fair market value immediately prior to death. This is to ensure that any unrealized gains accumulated over an individual’s life are reported and taxed in their Estate. This deemed disposition can result in taxable capital gains on assets such as; real property, investment portfolios, shares in private corporations, pensions, etc. If the surviving spouse is the named beneficiary of assets in the deceased’s will, or on government registered accounts (i.e. RRIFs, RRSPs, TFSAs, etc), these assets can be rolled directly to the surviving spouse on a tax-deferred basis. In this case, the surviving spouse inherits the marital assets at the deceased’s cost base and a deemed disposition at fair market value will be triggered on any assets the surviving spouse holds upon their death.
Loss of Certain Government Benefits
Certain government benefits are provided to taxpayer’s based on their annual family income. These calculations pool spousal income together as one family unit and can result in the couple not qualifying for certain benefits that they otherwise would if they were single. Such benefit programs include; Canada Child Benefit, GST/HST credits, and the Ontario Trillium Benefit.
Principal Residence Exemption
Taxpayers are entitled to a Principal Residence Exemption (“PRE”), which allows them to shelter capital gains on the sale of their principal residence. Individuals can only designate one property as their principal residence each year. Once a couple is married, or common-law, the couple can designate only one property as their principal residence each year as Canadian tax law assumes they live together in a conjugal relationship. Therefore, prior to becoming spouses, each individual may have been able to shelter a property from capital gains tax, whereas a subsequent to becoming spouses they can only shelter one property as a couple going forward.
Superficial Loss Rules
When certain assets, such as marketable securities, are sold at a loss and the taxpayer owns the same or similar asset 30 days prior or 30 days after the sale, the loss is a superficial loss and is denied. This deters taxpayers from creating artificial losses by selling an asset for the loss and immediately repurchasing it. This same rule applies to spouses, therefore if a taxpayer sells an asset at a loss and their spouse happens to buy the same or similar asset within 30 days, the loss is denied for the taxpayer. This creates a need to be aware of what each spouse is trading to ensure the couple does not run into any unexpected tax consequences.
Travis Redding, CPA, CA
Senior Manager, Taxation
Durward Jones Barkwell & Company LLP
Chartered Professional Accountants