SENIORS CAN STILL SPLIT ELIGIBLE PENSION INCOME WITH A SPOUSE OR PARTNER.

If your spouse or partner is in a lower tax bracket than you, consider a prescribed rate loan strategy whereby the funds are loaned to your spouse or partner to invest. Provided you charge at least one per cent on the loan (the current prescribed CRA interest rate until at least March 31, 2018), you can income split any excess returns.

The advantage of setting up this loan when the prescribed rate is one per cent is that the Income Tax Act only requires you to use the prescribed rate at the time the loan was granted. In other words, if you make a demand loan to your spouse today, you can use the one per cent rate for the duration of the loan, which could be many years or decades. The only caveat is that the interest on the loan must be paid by Jan. 30 annually, otherwise the strategy falls apart for 2018 and all future tax years.

Here’s how the income splitting strategy works, using an example of Rob, who is in the top tax bracket, and his partner, Katy, who is in the lowest bracket. Let’s say Rob loans Katy $300,000 at the current prescribed rate of one per cent secured by a promissory note. Katy invests the money in a portfolio of Canadian dividendpaying stocks with a current yield of four per cent. Each year, she takes $3,000 of the $12,000 in dividends she receives to pay the one per cent interest on the loan to Rob.

The net tax savings to the couple would be having the dividends taxed in Katy’s hands at the lowest rate instead of in Rob’s hands at the highest rate. This benefit would be offset slightly by having the $3,000 of interest on the promissory note taxable to Rob, but the interest paid would be tax deductible to Katy, since the interest cost was incurred for the purpose of earning income.

When it comes to income splitting with minor kids, capital gains earned on money gifted to those under age 18 are not attributed back but the prescribed rate loan strategy discussed above can be used, with some modification, to income split interest or dividend income with your kids.

The modification generally advised is to use a family trust to avoid making a loan directly to your minor children. With this strategy, you establish a discretionary family trust, naming your minor kids as beneficiaries of the trust. A loan is then made to the family trust at the one per cent prescribed rate and the trust invests the funds. Any income the trust earns above the one per cent prescribed rate that it pays on the loan can be distributed to your minor kids, or, more commonly, used by the family trust to pay the kids’ expenses, which can include private school, extracurricular activities, summer camp and clothing, among other things. In most cases, minor children will have little or no other income and thus pay no tax on the trust income distributed to them.