Forgot to file your taxes, now what?

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If you are an employee, the deadline to file your taxes with Canada Revenue Agency was April 30th. If you are self-employed, you have until June 17th to file….but if you owe you had to pay by April 30th.

If you happen to not have filed your taxes by April 30th, you may be wondering what you should do next. Let’s take a look, but first a reminder.

INCOME TAXES ARE LEGAL IN CANADA

Just in case you thought otherwise. It has been so since 1917 when the War Tax Act was first introduced. The act was modified in 1948 to become the Income Tax Act.

Now this is out of the way, here what you need to do if you didn’t file your taxes.

file, whether you owe or not, whether you earned or not

Even if the deadline has passed, you can always file your taxes. Start by doing just that.

It is always a good idea to file, even if you don’t owe money to the government or haven’t earned any money. There are 3 reasons for this:

  1. Qualification for a number of government programs is based on reported income, such as the GST/HST rebate or the Canada Child Care Benefit. If you are not reporting your income, both eligibility and amount for these types of benefits can’t be assessed.
  2. Tax refunds are not automatic. As long as your taxes are not filed, your tax refund will not be released, if you happen to be eligible for one.
  3. Notice of Assessment: if you want to borrow a large amount of money, such as a mortgage, lenders will ask for this document.

if you owe money

You really need to file….and pay what you owe. If you don’t, CRA will come after you at some point. You will also be assessed penalties and interests. They start at 5% of the balance owing plus 1% per month until it is fully paid. The 1% interests compound daily!

If you are a repeat offender, you could be assessed a penalty called “repeated failure to report income”. It currently sits at 20% of the most recent income amount you should have reported. Ouch!

what if you haven’t filed for several years 

Yep. That happens. If this applies to you, you will need to be a bit more proactive.

I suggest you contact CRA and see if its Voluntary Disclosure program could help you. This program will only work if CRA has not already contacted you in regards to your back taxes. If you qualify for the program, you will avoid further prosecution. Penalties will still apply.

Of course, you should file as soon possible! H&R Block and TurboTax can help you file taxes going back several years. You can file them online.

don’t expect your tax problems to go away

This is particulalrly true if you owe the government. The agency can be very aggressive and has a lot of means at its disposal to collect, including freezing your bank accounts, putting liens on properties and/or garnish wages.

The best way to avoid the above ordeal is simply to file your taxes on time. If on one occasion you are unable to do so, don’t let it become the norm. After all, “in this world nothing can be said to be certain, except death and taxes”. Benjamin Franklin (1789). 

The higher tax-bracket myth

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Very often, I hear people complaining about paying more taxes as a result of working overtime, taking a second job or receiving a bonus.

A very common sentence is: “working overtime puts me in a higher-tax bracket, so it may not be worth it”.

there is no such thing as “being in a higher tax-bracket”

People claiming this don’t understand how the Canadian tax system works. I don’t blame them. Taxation is a very boring matter.

That being said, I believe that understanding a few tax basics can help anyone make better financial decisions.

canada has a progressive tax system

Basically, it means that people will pay more taxes as they earn more money….but in a progressive manner or a tiered-manner. Here are the federal tax rates at the time of writing:

  • 15% on the first $45,916 of taxable income
  • 20.5% up to $91,831 
  • 26% to $142,353 
  • 29% up to $202,800 
  • 33% of taxable income over $202,800

For the sake of simplicity, let’s say an employee earns $ 45 000 gross per year. In refering to the above tax rates, our employee will be taxed at 15%.

Now, let’s say that our employee works overtime during the year, and earns an extra $ 5 000. Their gross income is now $50 000. In refering once again to the above rates, our employee will now pay 20.5%, right? WRONG! 

This is not how a progressive tax system works.

Our employee will actually pay taxes of 15% on $ 45 916 and 20.5% on the remaining $ 4 084.

This is where most people are confused. They think that their entire income will be subject to a higher tax rate, when it is not the case.

you can work overtime

As demonstrated above, working overtime will not result in a massive tax bill. Keep in mind you may be eligible for additional tax credits when filing your return.

RRSP myths debunked

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As 2016 is slowly but surely coming to a close, it will soon be tax season again.

I want to broach on the biggest RRSP myths that are still circulating around.

  • A contribution equals a tax refund. Sorry to disappoint you here, but this is simply not true. A contribution will lower your income tax payable, but does not necessarily trigger a refund. It depends on your income and situation in general. Also, your refund will never be for the full amount you contributed.
  • RRSPs are tax free. No, they are not. An RRSP is a tax-deferred account. It is like “contribute now, pay later”. You only pay taxes when you withdraw from the account. The only 2 exceptions when you won’t pay taxes is within the Home-Buyer Plan or the Lifelong Learning Plan. That being said, under these 2 programs, you have designate a minimum repayment amount each year when filing your tax return. If you don’t, you will be taxed accordingly.
  • Dividends and capital gains within an RRSP are not taxable. This is by far the biggest myth around. If you have stocks, ETFs or mutual funds, you may be paying taxes on any dividends or capital gains. It all depends on the country the stock/ETF/mutual fund is from. If Canadian, then yes, you will not pay taxes on any dividend or capital gain. Canada also has an agreement with the United States regarding dividend-paying US stocks held in a Canadian RRSP. These are not subject to taxes either. For the rest, the area can definitely be more gray. Many countries levy a tax on dividends paid to non-residents. If there is no tax treaty with Canada, CRA will levy additional taxes. Because an RRSP is a registered account, you won’t be able to claim the Foreign Tax Credit.
  • Everyone needs an RRSP. If you are in a low tax bracket or have a pension plan at work, you won’t benefit from an RRSP. If you are in a high tax bracket, you need to figure out what your tax bracket will be when you retire. If it is expected to remain the same, the RRSP is probably not the way to go either. With the clawback on the Guaranteed Income Supplement, you may end-up paying more income taxes! The RRSP is best suited for medium or high earners whose tax bracket will be lower upon retirement, and who don’t have an employer pension plan.
  • An RRSP loan is a good idea. Not necessarily. As I indicated above, your refund will never equate the amount you contributed. Unless you can reimburse your loan in full quickly, you will pay interests on said loan. You also can’t deduct the interests paid on the loan, because you can’t do so on registered accounts. Your RRSP also needs to return quite a bit more than the interest rate on your loan.

There are plenty of other misconceptions about RRSPs, but these 4 are probably the most common ones.

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Common tax deductions and credits for individuals

As tax season is in full swing, let’s take a look at the most common tax deductions and credits in Canada for individuals

A tax deduction offsets your taxable income, whereas a tax credit offsets your tax payable.

Tax credits are either refundable or non-refundable. A refundable tax credit will both decrease your tax payable and trigger a refund if applicable.

A non-refundable tax credit will only decrease your tax payable.

Tax deductions:

  • RRSP contributions: the most famous and used tax deduction. Any amount you contribute to a registered plan lowers your taxable income. If you earned $ 50 000 and contributed $ 5 000 to your RRSP, your taxable income is $ 45 000.
  • Daycare expenses: you can claim up to $ 8 000/year for children under 7 and $ 5 000/year for children up to 16.
  • Moving expenses: to claim this deduction, you need to have moved at least 40 kms away.
  • Union or professional dues
  • Support payments to children and/or former spouse
  • Carrying charges such as deposit box rental and fees paid to Financial advisors
  • Split-pension amount

Tax credits:

  • Spouse or common-law partner amount: if your spouse/partner is not working and you are supporting her/him.
  • Amount for eligible dependent: for single people supporting their children or other blood-relatives.
  • Adoption expenses
  • Caregiver amount: if you are supporting a parent with a disability
  • Caregiver amount for children:if you are supporting a child under 18 with a disability
  • Interest paid on federal and provincial student loans
  • Tuition fees and textbooks
  • Medical expenses: need to be a minimum of $ 2 208 for 2015
  • Donations to registered charities and political parties
  • Public transit amount: for monthly passes only
  • Children’s fitness and art credits: up to $ 500/children
  • First-time home-buyer amount: $ 750

There are many more credits, depending on your personal situation as well as your province of residence.

For example, in British-Columbia, you can claim additional credits if you are a coach, an apprentice or if you work in mining or logging.

In order to obtain the deductions and credits, you need to report them on your tax return. If you don’t, you won’t get them. Each year, thousands of tax dollars remain with the government because people are not aware of the deductions and credits they can claim. Educate yourself!

And remember, a tax refund is not windfall money. It is an interest-free loan to the government!

After filing your tax return

Most Canadians don’t really give much thought about what happens once they have filled their taxes with C.R.A. Besides issuing refunds or collecting owed amounts, there are a few steps in between that could impact you.

Pre-assessment review: right after you file, the deductions and credits you claim are reviewed to issue your Notice of Assessment and refund (if applicable). This happens from February to July and is a basic review.

Processing review program: similar to the pre-assessment review, except it takes place from August to December.

Matching program: This is a thorough review of your return. C.R.A. will compare what you filled with the information provided to them by your employer, banks, investment companies or charities. It usually happens between October and March. It may trigger a Notice of Reassessment and adjustments could be made to your RRSP limit or any benefit you are eligible for. It may also change the amount you owe or are owed.

For these 3 steps, it is unlikely C.R.A. will contact you.

Special assessment program, a.k.a. audit: This process can happen at any time, even for past returns. C.R.A. will send you a letter requiring additional documents or information.

If you are contacted, do not ignore the request. If you do, the agency will adjust your return based on their findings, and it won’t be in your favour. You may elect to consult a tax lawyer or an accountant.

There a few common reasons why you are audited:

  • Random selection
  • Discrepancies found during the matching program
  • Past history and reviews

Tax payers are required to keep all returns, records and documents for 6 years.

The agency is aiming for efficiency. Usually audits target a specific group of people or industries, but sometimes it is just “your turn”.

In a nutshell, reviews are very common. My 2011 return was reviewed. I had to reimburse $ 20.00 for an error in the calculation of my CPP amount. The Agency did not contact me prior to issuing a Notice of Reassessment.

 

Basic tax glossary

As tax-season is almost in full swing, I thought I would create a small glossary of the most common tax terms. They are not in any particular order.

Average tax rate: (total amount of tax paid divided by total amount of taxable income) x 100. For example, if you paid $ 5 000 of taxes on a $ 50 000 taxable income, your average tax rate would be 10%.

Marginal tax rate: Simply put, it is the amount of tax you pay on the last -and next- dollar earned. Canada operates on a marginal tax rate and a tax bracket system. The more you earn the more income tax you pay.

There are federal tax rates and provincial/territorial ones. Your province of residence and your level of income determine your marginal tax rate. For example, if you live in British Columbia and makes $ 50 000/year, your rate is 7.70%.

Tax deduction: A deduction against all income earned. It lowers the taxable income potentially reducing tax liability. The most common deductions in Canada are RRSP contributions and childcare expenses.

Tax credit: A deduction against the amount of tax owed. Unlike a tax deduction, a tax credit has no impact on taxable income. Some credits are federal; other ones are provincial/territorial.

Refundable tax credit: A tax credit not limited by the amount of tax owed. If you owe $ 300 in taxes but have a $ 500 refundable tax credit, you will receive $ 200.

Non-refundable tax credit: A tax credit that can’t reduce the amount of tax owed below zero. If you owe $ 300 in taxes and have a $ 500 non-refundable tax credit, it will bring your balance to zero; but you won’t receive a refund.

Taxable income: The amount of income used to calculate taxes. Gross income minus any deduction or exemption allowable.

T4: Form filled in by employers letting employees –and CRA- know how much they were paid and how much taxes were withheld. There are other T4 forms for retirement income.

Tax return: An annual declaration of personal income used to calculate income tax liability. In Canada, individuals have to file and pay on April 30th the latest.

Notice of Assessment: A summary of your tax return sent by CRA.

Notice of Re-assessment: If errors are found in your return, CRA will make the applicable adjustments and send you this form.

CRA review: Verification of your tax return against the information on file. This is different from an audit, in the sense you may not be contacted at all, and there may not be any change to your Notice of Assessment.

CRA audit: Either in-depth verification of your tax return or a spot check on a particular element. You will be contacted by mail and advised of the scope of the audit and what is required.

Large tax refunds aren’t that great

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Every year, at the same period, it is the great race to the tax refund. Everybody hopes for and wants one; the bigger, the better.

Getting a massive tax refund is actually not that great. Simply put, it means you are over-paying on your taxes. In Canada, income tax is taken at the source i.e. from your salary, if you are an employee; and from installments if you are self-employed.

The money is remitted to the Federal Government. When you file your tax return, you either owe additional income tax or you receive a refund. Sometimes, you are at “zero”, meaning you don’t owe money nor are entitled to a refund.

A lot of people see a tax refund as being a windfall or new money. But, as indicated in its name, a refund is a repayment or a reimbursement made to a person for over-invoicing or for returned goods. It is definitely not new money; it is your hard-earned money that has been hoarded by the Federal Government.

The icing on the cake is that you don’t receive any interest on your refund. On the other hand, if you are one day late in filing your return or paying your taxes, you are immediately assessed with interests and penalties.

A lot of people also think they beat the taxman. Not necessarily. A $ 500 refund won’t make a huge difference on both sides, but let’s say you receive $ 5 000.

It means you have been overpaying by $ 416.67 a month. If you have debt, this amount could have gone a long way to reducing it. You would also have saved on interests. Or you could have invested that money. It would have earned you more than “zero”.

I am not saying you should feel guilty or be upset because you receive a refund. However, I am saying you should review your tax situation and make adjustments.

If you are an employee, ask for a TD1 form and ensure you claim all the credits you are eligible to. The second form that can help is the T1213 one. Canada Revenue Agency will then authorize your employer to lower your tax withholdings.

Filling in these forms will show on your paycheque. It is best to keep your money where it belongs in the first place, i.e. your pockets. The Federal Government does not need extra, free money from you.