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Tax deferral - a powerful tax saving strategy

Tax deferral is the concept of pushing a tax bill from the current year to a year in the future. It is one of the most effective tax saving strategies. Why can you save money by deferring tax?

Indexing of tax brackets and credits

First, effective tax rates are generally lower every year due to the indexing of tax brackets and credits to inflation. For example, the lowest federally tax bracket will not end until you are earning $43,561 in 2013 compared to $42,707 in 2012 and $41,544 in 2011. The highest tax bracket will not start until your income hits $135,054 in 2013 compared to $132,406 in 2012 and $128,800 in 2011. The basic personal amount (the amount of income you can receive tax free) will be $11,038 in 2013 compared to $10,822 in 2012 and $10,527 in 2011.

Time value of money

Second, the concept of the time value of money plays a significant role. For example, if you can defer a tax bill of $1,000 for one year and invest the money earning 5%, your tax bill will really cost you only $953 in today’s dollars. The longer you can push your tax bill, the more money you can save. Let’s say you can defer the tax hit for 5 years, that $1,000 tax bill will cost you just $784 in today’s dollars.

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Some tax deferral ideas

How can you defer tax to a future year? Here are some ideas: (1) contribute to RRSP, RRIF, RESP, or similar deferred plan; (2) arrange with your employer for your bonus to be paid in January next year instead of at Christmas party; (3) defer the completion of certain work in your business or the issuance of invoices; (4) accrue your salaries and bonuses in your corporation, but defer payment of those salaries and bonuses by 179 days; (5) defer taxable disposition of assets until a future year; (6) invest with a buy-and-hold approach (the more often you sell investments and reinvest, the more often you’ll trigger taxable gains over time); (7) leave profits in your corporation to defer tax due to lower rate of tax in a corporation; (8) acquire other eligible small business investments to defer the taxable capital gain realized on the sale of your small business investment; (9) reinvest in a replacement property to defer the capital gain on the sale of former business property; (10) base the mandatory RRIF withdrawal on the age of the younger spouse when you are setting up a RRIF (this will reduce the required withdrawal annually and will allow you to defer tax longer). Just name a few. There are many others.

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