One Possible Tax Strategy With The Proceeds of the Sale of Your business
If you have non-registered assets exposed to your high tax rate, you understand the importance of effective tax planning. These may be funds you have accumulated over time in a taxable non-registered account – or a sudden windfall, such as an inheritance or proceeds from selling a business.
However, it can be challenging to find truly significant tax-reducing strategies that are effective within the Canadian tax environment. One proven, yet often overlooked strategy is the Spousal Loan Strategy. This income-splitting strategy is ideal for families with one spouse who earns a much higher income than the other – and is taxed at a much higher rate. When properly implemented, this strategy can save your family thousands of dollars in taxes every year.
With the Spousal Loan Strategy, you transfer funds to your lower-income spouse through a special loan arrangement at the Canada Revenue Agency’s (CRA’s) prescribed interest rate. Your spouse is then able to earn investment income on these funds and pay taxes at their lower marginal tax rate.
Your spouse pays you annual interest on the loan, but when properly implemented, the tax savings more than compensate for this. What’s more, when interest rates are reduced to historic lows, you have an unprecedented opportunity to maximize the benefits of this unique tax planning strategy.
The general steps to implement the strategy are as follows: identify potential non-registered assets and loan cash to your spouse, thus make a demand loan to your lower-income spouse. The loan is backed by a demand promissory note and a loan agreement that sets out the terms of the loan. Your spouse builds a portfolio. Your spouse invests the entire loan amount in a portfolio in their own name. To benefit from the strategy, design the portfolio to produce an annual income exceeding the CRA’s prescribed interest rate on the loan (currently at 1%).
Make annual interest payments. Your spouse pays you annual interest from the portfolio no later than 30 days after year-end to keep the strategy in effect. The interest must be paid at the CRA’s prescribed rate at the time the loan was made. Should the CRA’s prescribed rate increase in the future, the loan rate remains at the lower prescribed rate in effect when the loan was originally made. Ensure that the strategy remains effective by reviewing your tax savings with your accountant each year. Renew your promissory note. Ensure that the demand feature of the loan is kept in effect by renewing your promissory note as required.
For further discussion of the above-described strategy and/or other tax solutions, please contact George directly at 416-842-2297.
CIM, FCSI, CFP, CFA
Associate Portfolio Manager & Investment Advisor
Email: [email protected]