Maximizing Tax Savings through Income Splitting | Strategies for Lowering Your Tax Rate

One of my favourite topics is income splitting and how it can significantly lower our income tax rates as individuals.

Both Canada and the United States follow a marginal tax system, which means tax rates can range from zero to over 50%, depending on your income level and the state or province you reside in. In some regions, the highest marginal tax rate can reach around 56 or 57% for incomes exceeding a certain threshold, like $200,000 annually. This situation prompts individuals, including myself, to find ways to minimize their tax burden and avoid paying more than half of their income to the government.

One effective strategy is income splitting. Now, you might be thinking, "Can't I just pay random people without any work involved?" The answer is no. To achieve income splitting, we must ensure that family members involved are receiving reasonable compensation for the services or products they provide. When dealing with family members, transactions are considered non-arm's length, and tax authorities examine them with extra scrutiny.

To qualify for income splitting, two key conditions must be met:

1. The family member should be actively involved in the business for more than 20 hours per week. If this requirement is met, we can set them up as a shareholder or beneficiary of a family trust and use dividends to income split. This is my preferred method.

2. If the family member is not actively involved in the business for over 20 hours per week, they can be placed on the payroll and earn a reasonable salary for the services rendered.

For instance, let's consider my daughter, who travels with me to conferences and events. I pay her $1,000 per month to manage my TikTok account and handle social media, video, and photos. This arrangement benefits both of us. I get a business deduction for the $1,000, saving on income taxes (e.g., 20% tax rate would save me $200). On her personal tax return, she claims the $12,000 income but, due to personal tax exemptions and lower marginal rates for her lower income level, she pays zero taxes on that amount. This way, I receive a full deduction, and she pays no taxes, resulting in overall tax savings.

Income tax planning and income splitting are among my favourite topics because, when done correctly, they can lead to substantial tax savings.

Ready to reduce your income taxes and retain more of your hard-earned money? Don't miss out on the powerful strategy of income splitting. Consult with our tax experts to explore how you can implement personalized income splitting techniques. Whether you're a business owner or an individual looking to lower your tax rate, we're here to help you maximize your tax savings.