That is the question, isn’t it? And one I get asked a lot, especially from small business people. It’s also a loaded question because no matter what I say it may end up being wrong as there are many factors that come into play. You may not just owe tax, but Canada Pension Plan too (many people see this as a tax as much as they see income tax as a tax).
Factor #1: Your Income
How much tax you pay will depend on your taxable income, which is the amount used to calculate your tax on Schedule 1 (federal) and Form 428 (provincial). Taxable income is your net income earned during the year less RPP contributions, RRSP contributions, childcare expenses, union dues, carrying charges & interest, and more. We won’t get into provincial rates as they vary quite a bit from province to province.
For 2013, the income tax rates (federal) are:
- 15% on the first $43,561 of taxable income, +
- 22% on the next $43,562 of taxable income (on the portion of taxable income over $43,561 up to $87,123), +
- 26% on the next $47,931 of taxable income (on the portion of taxable income over $87,123 up to $135,054), +
- 29% of taxable income over $135,054.
You are taxed incrementally on your income so if you’re in the highest bracket you don’t just pay 29% on the total income, but incrementally from $0 to whatever is your income.
Example: You are earning $150,350.00 per year. The tax on that would be $33,015.69:
$ 6534.15 on the first $43,561
$ 9583.64 on the next $43562
$ 12462.06 on the next $47,931
$ 4435.84 on the final $15,296
Now this is just the tax calculation, as we’ll discuss in a little bit, there are credits you receive against this amount.
Factor #2: Type of Income
Another factor that affects the amount of tax you pay is the type of income. Employment, business, interest, pension, rental, RRSP, and most other incomes are taxed at 100%. This means that the total amount of those incomes is subject to tax.
The kind of income you really want is that income which is not taxed at 100%. That would be capital gains, which are taxed at 50%; this means that for every $1 in capital gains you have you’re only taxed on 50¢. For example, you have a capital gain from selling shares of $10,000; you’re only taxed on ½ of that or $5,000.
The other kind of income you want is dividend income as you get the dividend tax credit (DTC), which reduces the amount of tax you have to pay on dividends. There are two kinds of dividends: eligible and other than eligible. An eligible dividend is any taxable dividend paid to a resident of Canada by a Canadian corporation that is designated by that corporation to be an eligible dividend. A corporation’s capacity to pay eligible dividends depends mostly on its status. Other than eligible, or ordinary, dividends are any dividends issued by a Canadian corporation, public or private, which are not eligible for the enhanced dividend tax credit.
Dividends have a gross up whereby the amount of the dividend is increased by 38% for eligible dividends and 25% for other than eligible dividends. The dividend tax credit is 15.02% for eligible dividends and 13 1/3% for other than eligible dividends. If your corporation issues a $10,000 dividend then for eligible dividends are taxed at $13,800 with a DTC of $2,072.76. Other than eligible dividends would be taxed at $12,500 and a DTC of $1,666.67. Currently, in BC, you can make up to $35,000 in dividends and pay no tax; as long as the dividends are your only income.
Factor #3: Your Refundable and Non-Refundable Tax Credits
Individuals are entitled to claim certain non-refundable tax credits in calculating taxes payable for a taxation year. These credits reduce the amount of income tax an individual owes. The most common credits are the basic personal tax credit; the spousal tax credit; the equivalent-to-spouse tax credit; the dependent tax credit; and the age tax credit. These amounts change every year, so check with your tax preparer how much they are and to which ones you are entitled.
From our tax example above, you actually don’t pay the $33015.69 as you have non-refundable tax credits, which come off of this amount. As an employee (and single) the basic credits you get are:
Basic Personal Exemption $11,038.00
CPP Contributions 2,356.20
EI Premiums 891.12
Canada Employment Amount 1,095.00
Of this amount you get 15% (lowest federal rate) or $2,307.05. This amount comes off the tax amount above for a total tax bill of $30,708.64. That’s a lot of tax, which is why it’s good we have other deductions, such as RRSPs, medical expenses, donations and more.
A refundable tax credit is a tax credit that is treated as a payment and thus can be refunded to the taxpayer by Canada Revenue Agency. Refundable credits can be used strategically to help offset certain types of taxes that normally cannot be reduced, and they can produce a federal tax refund that is larger than the amount of money a person actually paid in during the year.
Some of these refundable credits are RRSP, childcare expenses, working income tax benefit, CPP or EI overpayments, GST/HST rebate on employment expenses, refundable medical expense supplement, non-capital losses of prior years, net capital losses of prior years, and many more.
As you can see calculating your tax payable is not an easy process as there are many factors that affect the tax you are going to pay. For the self-employed person, I’d keep aside at least 15% of your gross income as a good cushion for your tax bill the next year. Of course, don’t forget you need to make installment payments if your tax bill the prior year was over $3,000.