It just might be everyone’s favourite piece of mail of the year – a tax refund. Fun money. Running around money. A sign of your financial prudence. In reality, a tax refund is really a money grab on the part of the CRA.
You’ve already paid that tax through withholdings or previous tax installments. All that’s happening, in truth, is that you are being repaid for the tax you have over-paid through the year.
Sorry to burst the bubble, but the reality is that the average tax refund is over $1750. That means that the CRA accrues your withholdings or over-payments for as long as 18 months before you get it back – interest free if you please. What’s the matter with this picture? Lots.
If you had access to that money during the year, instead of at least five months after the year has ended, think how much further ahead you’d be.
But this isn’t about sour grapes – it’s about strategies to turn CRA’s advantage back to you. How?
Here are a few ideas.
The first is obvious – invest your refund immediately in a tax-friendly vehicle, such as an RRSP. It will start to give you a payback sooner, and will further reduce your tax burden – and your savings.
Here’s a simple illustration: What happens if you get in the habit of rei-investing your RRSP-based directly into your RRSP? You won’t see the benefit until next year, but after that the benefits begin to accrue.
Let’s say you invested $1000 in an RRSP through the year and received a $400 refund based on that contribution, with a 40 percent marginal tax rate. If you re-invest that $400 back in your RRSP, next year you’ll receive an added $160, and the year after that an added $64 to your refund – all based on that original $400 refund.
Here’s another strategy that many Canadians are likely unaware of: the CRA T-1213 form. This form is a request to reduce tax deductions at source, based on your pattern of tax reduction filings, such as regular RRSP deductions at source, or consistent childcare expenses. This will eliminate the lag between your tax collection and your refund.
That doesn’t mean it’s always inappropriate to “spend” your refund. A perfect example is credit card debt. At onerous interest rates of about 19 percent, the sooner you can discharge this debt, the better.
And then there’s always that temptation to spend the refund on a coming summer vacation. Nothing wrong with that. But if you manage to get out in front of the issue, you will soon reap rewards that will also contribute to your cash flow, just not immediately.
So instead of continually chasing the taxes you’ve in effect pre-paid to the CRA, you will instead be pre-paying for future tax relief.
That’s why tax planning is such an essential component to overall financial planning. That’s also why at BarecWealth, we think it’s so important to see your whole financial picture, including tax planning, estate planning, insurance planning and investment planning. They are all part of the same overall financial plan.
If you’ve found this information useful, please feel free to share it with friends and family. There’s no reason for the government to fund its budget based partly on the tax withholdings of its responsible tax-paying citizens.
All the best,
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