© 2008 McGraw-Hill Ryerson Ltd.1 Chapter Ten Individuals: Determination of Taxable Income and Taxes...

© 2008 McGraw-Hill Ryerson Ltd. 1

Chapter TenChapter TenIndividuals: Determination of Taxable Individuals: Determination of Taxable

Income and Taxes PayableIncome and Taxes Payable

Prepared by Nathalie Johnstone, Prepared by Nathalie Johnstone, University of SaskatchewanUniversity of Saskatchewan

Electronic Presentations in Microsoft® PowerPoint®


Individuals: Determination of Taxable Income and Individuals: Determination of Taxable Income and Taxes PayableTaxes Payable

I. Determination of Taxable IncomeII. Loss Carry-OversIII. Loss Utilization – Impact on Decision

MakingIV. The Capital Gain DeductionV. Calculation of Tax for IndividualsVI. Special Adjustments to the Tax

CalculationVII. Final Returns of Deceased Taxpayers


I.I. Determination of Taxable IncomeDetermination of Taxable Income

• Net income for tax purposes must be converted to taxable income.

• Individuals determine their taxable income and tax payable by a different method than corporations.


I.I. Determination of Taxable IncomeDetermination of Taxable Income

• A taxpayer’s taxable income for a taxation year is:

• The special reductions are grouped together in Division C of the Act.

Stock optionsLosses not utilized in other yearsLifetime capital gain deduction

Taxable income = Net Income – Special ReductionsTaxable income = Net Income – Special Reductions


Taxable Income Formula - revisitedTaxable Income Formula - revisitedNet income for tax purposes:

a) Employment IncomeBusiness IncomeProperty IncomeOther items

Plusb) Net Capital Gains- ITA 3(b)(i)(B)

Lessc) Other items of deductionsLessd) Aggregate of losses from Employment

Business, Property and ABILS

= Net Income for tax purposes


Taxable Income Formula for IndividualTaxable Income Formula for Individual

Net income for tax purposes XXX

Less

2. Special Reductions:a) Stock Options –ITA 110(1)(d),(d.1) (XXX)

b) Losses not utilized in other years

ITA 111 (XXX)

c) Lifetime capital gain deduction

ITA 110.6 (XXX)

= Taxable Income


II.II. Loss Carry-OversLoss Carry-Overs

• Loss carry-overs are losses from other years.• Losses incurred in current year are deducted

first.– as part of the net income calculation.


Net Capital LossesNet Capital Losses

• Net Capital Losses:– Allowable capital losses incurred in current year

but cannot be utilized• can be carried back three years and • forward indefinitely – ITA 111(1)(b)• only deductible against capital gains

• Exception upon the death, • unused losses may be deducted against any type

of income earned in the year of death or in the preceding year – ITA 111(2)


Non-Capital LossesNon-Capital Losses

• Unused business, property and employment losses and ABILs

• can be carried back three years and • forward twenty years - used against any source

of income ITA 111(1)(a)


ABILsABILs

Special Treatment:• Only carried forward ten-years.

ABIL unused after ten-years:• reclassified as a net capital loss and • can be carried forward indefinitely

– to be used only against future capital gains.


Farm Losses and Restricted Farm LossesFarm Losses and Restricted Farm Losses

• Farm losses - chief source of income is farming or fishing.

• Farm losses are treated the same as business losses.


Farm Losses and Restricted Farm LossesFarm Losses and Restricted Farm Losses

• Restricted farm losses - not primary sources of income.• Max deduction in current year- $8,750

– $2,500 plus

– ½ x $12,500

• Unused losses - classified as restricted farm losses.• ITA 111(1)(c) - Unused restricted losses can be:

– carried back three years and

– forward twenty years

– only be deducted against farming losses.


III.III. Loss Utilization – Impact on Decision Loss Utilization – Impact on Decision MakingMaking

• Organizational structure chosen has an influence on loss utilization.– Corporate structure – risk of loss expiration is

increase as losses are locked in the corporation.

– Proprietorship or partnership – losses can be used against all other sources the individual may have.


III.III. Loss Utilization – Impact on Decision Loss Utilization – Impact on Decision MakingMaking

• The risk of loss expiration:– can be minimized by creating taxable income or

– reduce deductible expenses, thereby

– permitting a greater amount of the loss carry-over to be used.


IV.IV. The Capital Gain DeductionThe Capital Gain Deduction

• Final step is to apply the capital gain deduction.• Lifetime Capital Gain Deduction is available only for

– Qualified small business corporation shares and

– qualified farm property.

– Deduction is one-half of $750,000 ($375,000) – ITA 110.6(4)

• deductible from taxable income.

• The deduction is discretionary. After March

19,2007


IV.IV. The Capital Gain DeductionThe Capital Gain Deduction

A small business corporation is:– a private corporation that is Canadian-controlled and– that uses all or substantially all of its assets (at least

90%) to conduct an active business.

Qualified farm property includes:– real property, – eligible capital property used in farming business, – share of a family farm corporation, and – Interest in a farm partnership.


IV.IV. The Capital Gain DeductionThe Capital Gain DeductionAbility to claim is limited by two items:1.Capital losses incurred (including ABILs)

- only to extent that lifetime capital gains exceed capital losses.

2.Accumulated investment losses (CNIL) – ITA 110.6(1)

- Capital gains deduction available is reduce by the total CNIL balance.

- CNIL does not eliminate or reduce total available capital gain exemption; - it simply delays its use until a later year.


V.V. Calculation of Tax for IndividualsCalculation of Tax for Individuals

Income tax is imposed by the federal and provincial governments:

Federal tax - % of taxable incomeProvincial tax - % of taxable income


Determination of Tax for an IndividualDetermination of Tax for an Individual

Federal tax:Primary federal tax XXFirst-category tax credits (XX)

Basic federal tax XXSecond-category tax credits (XX)

Total federal tax XX

Provincial tax:Primary provincial tax XXProvincial surtax XXSpecific provincial tax credits (XX) XX

Combined federal and provincial tax XX


Primary Federal TaxPrimary Federal Tax

• Progressively higher tax rates to higher levels of annual income (tax policy principle: ability to pay).

• Each rate of tax is applied separately to the portion of the individual’s income that falls within the applicable range.


Primary Federal TaxPrimary Federal Tax

Taxable Income Range (2008) Rate

Up to $37,885 15%

$ 37,886 - $75,769 22%

$ 75,770 - $122,184 26%

Over $ 122,184 29%


First Category of Federal Tax CreditsFirst Category of Federal Tax Credits

ITA 121• Dividend tax credit – Eligible Corporations

– Equal to 19% of the taxable amount of dividends received from Canadian corporations.

• Dividend tax credit – Non-Eligible Corporations– Equal to 13 1/3% of the taxable amount of

dividends received from Canadian corporations.


Dividend Tax CreditDividend Tax Credit

Eligible Corporations:– Canadian Public Corporations

– Canadian private Corporations – not Canadian controlled

– CCPC not eligible for SBD

Non-eligible Corporations:– CCPC eligible for SBD

– CCPC earning investment income



Basic - ITA 118(1)(c)15% x $9,600 = $1,440

Spouse or equivalent to spouse - - ITA 118(1)(a),(b)

15% x $9,600 = $1,440 Reduced by 15% of the spouse’s net income.



• Child Credit– A credit of $306 (15% of $2,038) for each child:

• Either parent can claim – providing residing with parent throughout the year

• Can transfer unused credit to other parent.• If not residing with both parents – claimed by

person eligible to claim wholly dependant person credit.



ITA 118(1)(d)(e) - Infirm dependantsIndividuals supporting a

related person At least 18 years of age and dependent by reason of physical or mental infirmity

Tax credit of $615 (equivalent to $4,095 of taxable income)

reduced by 15% of dependant’s net income in excess of $5,811.

necessary for dependant to be living with supporting individual.



ITA 118(1)(b.1) - CaregiverProvide in-home care for::

a parent or grandparent who is 65 or older, or dependent relative who is infirm

$614 tax credit against federal tax.Reduced by 15% of the dependent’s income in

excess of $13,986.Eliminated if dependant’s income >$18,081


First Category of Federal Tax CreditsFirst Category of Federal Tax CreditsITA 118(2) - Age amount - 65 years of age or

older – 15% x $5,276 = $791

– $5,276 reduced by 15% of net income > $31,524.

ITA 118.3(1) - Disability - a severe & prolonged mental or physical impairment – 15% x 7,021 = $1,053

– Can be transferred to spouse

if individual cannot use



• Employment Credit– Employed individuals

– Designed to cover expenses incurred by employees

– 15% x $1,019 = $153



ITA 118(3) - Pension– 15% on first $2,000 – qualified pension income received in a year.– Spouses who split pension income can double up

on this credit



ITA 118.1(3) - Charitable donations– 15% x first $200 of annual contributions and – 29% x the remainder.– Annual donations cannot exceed 75% net income– Unused Donations can be carried forward for 5

years



ITA 118.7 - CPP and EI– 15% x CPP and EI contributions

ITA 118.2(3) - Medical expenses– 15% x qualified medical expenses exceeding:

• either 3% of the taxpayer’s net income, or • $1,962, whichever is less.



ITA 118.5 - Tuition fees– attend a university, college, or other certified

post-secondary institution – 15% x tuition fees paid.

ITA 118.6(2) - Education amount and textbook credit– Full-time students – 15% x $465 x each month of

full-time attendance.– Part-time education – 15% x $140 x each month

of part-time attendance.


Tuition and Education creditsTuition and Education credits

ITA 118.9 - The student may not have sufficient income to utilize the above credits.

The unused portion is transferable - up $750 (15% x $5,000) annually to a spouse, parent, or grandparent.

Less any credits used by student.

Alternatively, the student may keep the unused credit and carry it forward indefinitely.



Student loan interest– Entitled to deduct 15% x interest paid on student

loans.

– Only on interest on loans under:• Canada Student Loan Program and • Provincial student loan programs.

– The credit may be claimed in the year of interest payment or in any of the following five years.



Adoption Expenses– 15% of expenses to maximum of $10,643

Public Transit Pass– 15% of monthly cost for unlimited travel

• Local busses, streetcar, subway, commuter train and ferries

Children’s fitness credit– 15% of fees paid up to $500 for

• Physical activity program


Second Category of Federal Tax CreditsSecond Category of Federal Tax Credits

Political contributions– Based on a graduated

scale.– Annual credit is:

• 75% of the first $400, • 50% of the next

$350, and • 33 1/3% of

contributions over $750.

– Max. of $650 annually

• ITA 126 - Foreign tax credit

• Investment tax credits• Logging tax credit• Labour-sponsored fund

credit


Provincial TaxesProvincial Taxes

• Determine their primary tax by applying specified tax rates to the federal taxable income.

• Rates vary from province to province.• Specify their own tax credits.• Individuals are subject to tax based on the

province they live in on December 31 of the taxation year.


VI.VI. Special Adjustments to the Tax Special Adjustments to the Tax CalculationCalculation

• Special rules apply that increase the amount of tax payable beyond the normal amount.

• Two basic areas where the normal tax calculation may be adjusted to a higher amount:

1. The Alternative Minimum Tax (“AMT”)

2. Special Tax on Old Age Security Benefits


The Alternative Minimum Tax – ITA 127.5-.55The Alternative Minimum Tax – ITA 127.5-.55

• Designed to impose a minimum level of tax– When “normal tax” has been reduced by “tax

preference” items.• Example – non-taxable portion of capital gains

• Additional tax is not a permanent tax; – AMT paid in one year can reduce normal tax in

following year.

– can be carried forward for up to seven years


Tax Preference ItemsTax Preference Items

• Taxable income is increased by the following:The non-taxable portion of net capital gains

earned.Deductions claimed from certain specified tax

shelter investments, to the extent that any of these create losses.

Employee stock option deduction.

• Taxable income is reduced by the following:The gross-up on Canadian dividends.A basic exemption of $40,000.


The Alternative Minimum TaxThe Alternative Minimum Tax

• Entire income is subject to a federal tax rate of 15%.

• If revised federal tax > the normal federal tax, you have AMT.

• Provincial taxes are then calculated on the revised amount.


Special Tax on Old Age Security Benefits Special Tax on Old Age Security Benefits (“Clawback”)(“Clawback”)

• Clawback is a special tax imposed on individuals who:– received OAS benefits and – Earn > $64,7181 in net income for tax purposes.

• The special tax is equal to 15% of net income in excess of $64,718,– up to a maximum of the OAS payments.

• Since all OAS benefits are included in income, the “Clawback” is deducted in arriving at net income.


VII.VII. Final Returns of Deceased TaxpayerFinal Returns of Deceased Taxpayer

Special rules apply

A. Taxable Income and Net Capital Losses• Unused capital losses can be used against any

income source in year of death or previous year.

• Restricted by any capital gains deducted in prior years


Final Returns of Deceased TaxpayerFinal Returns of Deceased Taxpayer

Tax Returns:• Final return require plus• up to 3 additional returns in addition to final tax

return.

Rights and Things return:– Amounts not paid but relating to period prior to

date of death• i.e. employment earnings owed but not paid,

dividends declared but not paid.

© 2008 McGraw-Hill Ryerson Ltd.1 Chapter Ten Individuals: Determination of Taxable Income and Taxes...

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