Personal Income Tax -> Income Splitting -> Lend money to your spouse or child
Lend Money to Your Spouse or Child
Income Tax Act s. 74.5(2), Income Tax Regulations s. 4301(c)
If one spouse is in a higher tax bracket, it may be beneficial to lend money to the lower-income spouse. Money can also be loaned to a child. The funds can be used to purchase investments, and tax on the investment income will be paid by the lower-income spouse at a lower marginal rate. A promissory note should be written for the loan, with the interest rate and principal amount specified. Interest must be paid on the loan by January 30th of each year. In order for attribution rules to not be applied, the interest rate charged must be greater than or equal to the lesser of:
- the prescribed rate set by Canada Revenue Agency (CRA) at the time the loan is made, or
- the rate that would, having regard to all the circumstances, have been agreed on, at the time the loan was made, between parties dealing with each other at armís length.
In order for this to work, the investments from borrowed funds should be in a separate investment account in the borrower's name.
The prescribed rates are subject to revision each calendar quarter, and can be found on the CRA prescribed interest rates page. The rate to use is the one for calculating taxable benefits from low-interest and interest-free loans to employees and shareholders. This rate was reduced from 2% to 1% effective April 1, 2009. The rate doubled to 2% for the period of October 1 to December 31, 2013. Any loans created from October 1 to December 31, 2013 will use the 2% rate throughout the loan. The rate was reduced to 1% effective January 1, 2014, and continues to be 1% until at least September 30, 2017.
The interest received by the lender must be included in income, but is deductible as carrying charges by the borrower, as long as a loan agreement has been drawn up so that there is a legal obligation for the borrower to pay the interest.
Example for Ontario residents:
Another option besides lending money to a lower income spouse is for the higher income spouse to pay for all household and family expenses, and the lower income spouse can invest all income earned. Obviously, the lower income spouse would only be able to invest as much as their net income after tax.
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