Tax on Split Income (TOSI), another name for income splitting, is a tax planning strategy used in Canada to lower your overall tax liability. It means shifting income to relatives with lower tax rates. To take advantage of their lower marginal tax rates, the plan is to transfer money to other family members.
What is Income Splitting Canada?
Income splitting is a tax strategy used in Canada where a taxpayer divides their income among family members who make less money overall. The idea of income splitting is to take advantage of Canada’s progressive tax structure, which imposes higher tax rates on higher income levels. Contributions to family members with lower earnings allow taxpayers to reduce their total taxable income and their tax liability quickly.
Tax on Split Income (TOSI): How Couples Can Keep More Money in Their Pockets
Your family’s income allows you to benefit from reduced marginal tax brackets and benefits that are available to lower-income individuals. By distributing income to areas with lower tax rates, households can so lawfully lower their total tax liability. Income splitting enables the taxation of income at a lower rate in place of a higher rate.
Having family members in lower tax brackets to whom you can transfer money is crucial for successful income splitting in Canada. Splitting money between spouses and adult children is a common arrangement.
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Who Can Benefit from Income Splitting Canada?
Income splitting can have substantial advantages for some individuals and households during their tax planning strategy. The following are some of the primary categories that stand to benefit from the application of income-splitting strategies:
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Income Inequalities in Families
Income splitting can benefit families where one partner or spouse earns much more money. The family can benefit from reduced marginal tax rates by transferring a portion of its taxable income to the spouse with the lower income.
The household saves money on taxes overall as a result of this. Families can divide money more fairly between spouses for tax purposes by income splitting.
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Retirees
Pension income splitting is available to retirees, who can give their spouse or partner up to 50% of their qualified pension income. Retirees can use this to even out any significant differences in their retirement income for taxation.
For many retired couples, sharing their pension income results in significant annual tax savings. To lower their retirement taxes, retirees may also look into alternative income-splitting arrangements.
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What Income Splitting in Canada Is Not Subject to TOSI?
1. Disregarded Business Profits
Gains are excluded from TOSI if the family member is between the ages of 18 and 24 and worked for the company for at least 20 hours a week during the current tax year.
If you can show that you worked the required 20 hours per week in any five prior tax years—these years do not have to be consecutive—you may also be eligible for the exemption.
Furthermore, you only need to provide evidence of the family member’s employment contribution during the times the business is open for business—for example, six months out of the year.
2. Dividend Profits
Dividend profits made after the tax years in which the individual worked are likewise exempt from TOSI, in addition to earnings made during those years. When you wish to change a sole proprietorship into a corporation, this is helpful.
3. Excluded Shares
Finance Canada clarifies, nevertheless, that this exemption is limited to businesses that do not qualify as professional corporations—that is, businesses that make less than 90 percent of their revenue from the supply of services—such as dental and medical clinics.
4. Entrepreneurs Over 65
If a business owner is over 65 and has contributed to the business, their spouse’s income sharing is exempt from TOSI.
Which Income Types are Eligible for Splitting?
To save taxes, family members might divide their income into several primary categories:
Income from Employment
One spouse can give the other a suitable income to split the salary and earnings from their jobs.
Pension Income
- Up to 50% of the income received by retirees from private pensions might be divided with their spouses.
- Splitting pension income enables couples to benefit from lower marginal tax brackets and balance their income.
- Investment Income Spousal loans are one tactic that can be used to divide interest, dividends, capital gains, and other investment income.
- The tax burden is lessened by allocating investment income to the spouse with the lesser income.
Business/Rental Income
- You can divide your income as an active partner by including your spouse in business, real estate, or rental income.
- As a result, their tax burden is reduced, and they can participate in the net business or rental revenue.
Conclusion
The way income splitting is handled frequently hinges on the objectives of policy, such as lowering inequality vs increasing fertility rates. Some nations are more restrictive, but others, like Canada, openly encourage income splitting. Successful income splitting requires an understanding of the laws in your area.
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