The idea of splitting income between a couple to lower your family’s overall tax payment has been around for a long time. The question is, is a spousal loan right for you?
The strategy is this – the higher income spouse lends cash to the lower income spouse at a prescribed rate set by CRA, which is usually pretty low. Then that money is put into investments and the subsequent return on that investment is claimed on the lower income spouse’s tax return. Also, the interest paid by the borrower is tax-deductible, because the borrowed money is for investments. All of this results in lowering the overall taxes for the family.
Good deal, right? Well, maybe. Before you start writing that big cheque to your spouse, you’ll want to ensure this is the right thing for you. As this loan will be invested in non-registered investments (because that’s the only way to get the interest deduction), you will want to make sure you’ve maxed out your RRSP contributions. What about your TFSAs for yourself and your spouse? If you have children, have you maxed out their RESPs? Depending on your tax bracket, retirement plans and your children’s education funding, you may be better off focusing on these factors rather than a spousal loan for non-registered investing.
After all these considerations, if the spousal loan is a viable option for you, then you’ll want to choose a loan amount that can be invested for the medium or long term. The CRA’s current prescribed interest rate is 2%. This rate will stay in effect for the life of the loan. The main consideration here is that interest payments are due annually and must be paid by January 30th, including within the first year but can be prorated to the exact date the loan is made.
Income splitting can be a wise strategy depending on your individual circumstances, as it can result in significant tax savings for your family. But the best way to find out if this strategy will work, is to consult a tax professional and get the right advice for you.
This blog is made available by FCPC Group for educational and general information purposes only. This should not be used as a substitute for professional accounting and tax advice. For more information, consult a chartered professional accountant.