4 Accounts You Can Use to Reduce Your Taxes

Craig Sebastiano
by Craig Sebastiano March 22, 2016 / No Comments

Hate paying taxes? You’re not alone. Fortunately, there are some types of investment accounts you can use to help reduce the amount of tax you pay.

Here’s a quick overview of the accounts you can take advantage of to lower your tax bill.

RRSPs

Registered retirement savings plans (RRSPs) can defer taxes until retirement; that’s when you’ll likely have a lower income and thus a lower tax bracket. Plus, your annual contributions can reduce your taxes up to a certain amount. Your investments compound on a tax-free basis as long they stay in the plan. If you have a spouse or common-law partner, you can also make contributions to his/her RRSP and claim the deduction. An RRSP can also be used to purchase a home using the Home Buyer’s Plan or to help fund your education using the Lifelong Learning Plan.

The most you can contribute to an RRSP is the lesser of 18% of your previous year’s earned income or the RRSP dollar limit for the year ($24,930 in 2015). If you don’t max out your RRSP, there’s no need to worry because your contribution room can be carried forward.

RESPs

Registered education savings plans (RESPs) are used to pay for a child’s post-secondary education. Instead of saving money in a non-registered account where you would have to pay tax, you should use an RESP. While contributions aren’t tax deductible, the savings are allowed to grow on a tax-deferred basis. The beneficiary of the RESP has to pay tax only on the the accumulated income and not the original contribution amount as long as he or she is enrolled in a qualified education program. The beneficiary should be in a lower tax bracket than the contributor (usually the child’s parents) and thus taxed at a lower rate. Currently, the lifetime maximum contribution per child is $50,000.

RRIFs

If you have an RRSP and turn 71, you can either withdraw all of the money and pay taxes immediately, buy an annuity, or convert the RRSP into a registered retirement income fund (RRIF).

A RRIF allows the income earned on your investments to continue to be tax sheltered during your retirement. However, you’ll need to withdraw a certain amount from your RRIF each year and pay income tax on the amount you withdraw. There’s no limit on the amount you withdraw but if you make a large withdrawal in a certain year, you might end up in a higher tax bracket and pay more taxes.

TFSAs

A tax-free savings account (TFSA) is the newest account on the block and also the most flexible. You can make withdrawals at any time, there aren’t any penalties or taxes on withdrawals, and you don’t need to re-contribute money you’ve withdrawn.

While you don’t get tax deductions for contributions, the income earned and capital gains in a TFSA aren’t taxed. However, you’ll have to a pay a withholding tax on dividends earned from foreign stocks in your TFSA so you may want to hold those in your RRSP.

The current annual TFSA contribution limit is $5,500 and unused contribution room can be carried forward indefinitely. But you don’t want to contribute more than you’re allowed or you’ll be taxed at a rate of 1% a month on the excess amount you contributed.

Year TFSA contribution limit
2009 $5,000
2010 $5,000
2011 $5,000
2012 $5,000
2013 $5,500
2014 $5,500
2015 $10,000
2016 $5,500

The bottom line

All of these accounts can hold GICs, mutual funds, stocks, and bonds. If you don’t want to pay taxes on dividend or interest income or capital gains, using one of the above-mentioned accounts can reduce the amount of tax you have to pay and put more money in your wallet.

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Flickr: KMR Photography