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Hi, having max'ed RRSP and TFSA, my spouse and I are looking for ways to "income split". One way is Spousal Loan to move non-registered investment earnings to the lower tax bracket spouse - lowering total tax paid. Lots of recommendations on this topic over the internet. However, I did some back of the envelope calculation and found this approach only works if higher earner spouse tax rate is significantly higher than lower earner spouse (more than 10%). The higher earner must pay tax on interest on spousal loan, even at prescribed loan interest rate of 1%, annually. The above tax paid is going to reduce total returns on the loan-funded investment, unless the lower earner spouse can deduct the interest expense (the 1%) fully against investment return (i.e. by having investment interest income).

If the loan-funded investment earning is only capital gains, then it's very hard for Spousal Loan to make sense financially, when the marginal tax rate differential is low (e.g. 40% - 30% = 10%).

Can anyone with experience chime in and point out anything I'm missing?

Thanks alot!
 

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Agree spousal loan doesn't make much sense when marginal tax rates are very close.

The better way would be for the higher income spouse to disproportionately fund household expenses and for the lower income spouse to disproportionately fund investments. Record keeping can be a challenge so the best way to do this is to have 2 non-reg investment accounts, one for each spouse. That way, it is clear how the lower income spouse funds that investment account.

If you are inclined to do things jointly, have one JTWROS account with lower income spouse's name first and that investment account is funded 100% by that spouse, and the other JTWROS account have the higher income spouse's name first and be funded 100% by the higher income spouse. Makes tax slips, record keeping, etc. simple.
 

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Discussion Starter · #3 ·
Agree spousal loan doesn't make much sense when marginal tax rates are very close.

The better way would be for the higher income spouse to disproportionately fund household expenses and for the lower income spouse to disproportionately fund investments. Record keeping can be a challenge so the best way to do this is to have 2 non-reg investment accounts, one for each spouse. That way, it is clear how the lower income spouse funds that investment account.

If you are inclined to do things jointly, have one JTWROS account with lower income spouse's name first and that investment account is funded 100% by that spouse, and the other JTWROS account have the higher income spouse's name first and be funded 100% by the higher income spouse. Makes tax slips, record keeping, etc. simple.
Thanks for your reply!

Is the advantage of using JTWROS non-reg investment account, instead of individual non-reg investment accounts, simply to bypass the probate process in event of spousal death - thus expediate access to funds for survivor? Is that the only advantage of JTWROS?
 

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We have been doing this for ten plus years on the advice of our accountant. We started when I was in the highest incremental bracket, spouse in the lowest and when I was exercising stock options. A few things of note that our CPA recommended and we followed:

-do the loan now when prescribed rates are low @1 percent. Spousal loan interest will not increase if you have a locked in agreement

-do the loan on paper. In our case we did several loan documents for different amounts so that we could change it easily if necessary. Since retiring the amount of the outstanding loan has been reduced.

-have the interest paid and keep a record of it physically moving from one spouse to the other.

-loan interest must be paid, or at least that was the rule when we started, by Jan 15 of the following year. That means that in tax year 2020 I included 2019 spousal interest, my spouse claimed it as an expense on her 2020 return

Now retired, our goal is to have us both in the same marginal tax bracket. We have investment income-dividends, interest, etc. and taxable capital gains. Some investments are joint, but many are in my spouses name.

We have avoided a fair bit of tax by doing this. I also have a DB so we use pension sharing to smooth over any remaining differences in our respective marginal tax rates.

Despite my having two desk audits over the period we have had loans, CRA have never questioned it. But...I have no doubt that they check both returns to ensure that the interest income is being claimed by me and the amount is the same. We itemize this clearly on each of our returns.


We do a proforma tax returns mid-late November each year to determine where we sit from a tax exposure perspective and make adjustments where appropriate. Doing this has been helpful.

Apart from pension splitting, this is about the only avenue left for us to lessen our tax burden.
 

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Is the advantage of using JTWROS non-reg investment account, instead of individual non-reg investment accounts, simply to bypass the probate process in event of spousal death - thus expediate access to funds for survivor? Is that the only advantage of JTWROS?
For the most part yes. That works if the assets are meant to go to a surviving spouse. Not so much if the assets are intended to be distributed differently via Will, e.g. second relationships, blended families, etc.

Added: That is the way I did it in my first marriage. But not in my current 'late-in-liife' second relationship where most of my assets go to my own children, and similarly for my spouse who wants her assets to go to her children.
 

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As an aside, all of our respective investments are JTWROS. Surprising to me at the time, my employer and our accountant also recommended that I do the same or similar with unexercised stock options and stock the company stock plan.

There are a few provinces such as Alberta that do not have a probate tax per sae as part of the probate process however it would certainly be helpful in provinces that do have one such as BC.
 

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... The higher earner must pay tax on interest on spousal loan, even at prescribed loan interest rate of 1%, annually. The above tax paid is going to reduce total returns on the loan-funded investment, unless the lower earner spouse can deduct the interest expense (the 1%) fully against investment return (i.e. by having investment interest income).

If the loan-funded investment earning is only capital gains, then it's very hard for Spousal Loan to make sense financially, when the marginal tax rate differential is low (e.g. 40% - 30% = 10%).

Can anyone with experience chime in and point out anything I'm missing?
Agree that a bigger tax differential is better and with AltaRed that the priority approach is to have the higher income earner pay expenses, leaving more cash flow for the lower income earner to invest.

As well, both income paying and non-income paying investments may be eligible for the the lower earning spouse to deduct the interest expense. The question is whether they selected the right ones and have dealt with anything that reduces the destructibility.

'Course since some sectors only pay dividends for the big players, it should not be difficult to have a mix.


Cheers
 

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-loan interest must be paid, or at least that was the rule when we started, by Jan 15 of the following year. That means that in tax year 2020 I included 2019 spousal interest, my spouse claimed it as an expense on her 2020 return
Minor correction, interest must be paid by January 30th. See TaxTips.ca - Income splitting with a lower-income spouse or child by lending to them for more information.

We had a number of spousal loans in place over the years. I would agree that making sure they are properly documented on paper and that there is clear documentation of interest (and principle) payments being made.
 

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It may sound a little complicated to set up a spousal loan properly but in reality is very straightforward to do.
 

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It may sound a little complicated to set up a spousal loan properly but in reality is very straightforward to do.
Just go to a qualified tax accountant as it is a common way to split income when one spouse makes significantly more than the other... They can advise your lawyer on the legal documents to set up the loan and tell you what your annual interest amounts will be. It is important to follow the proper procedures, as ian outlined, just in case CRA comes looking.
 
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