12/03/2014 04:50 EST | Updated 02/02/2015 05:59 EST

Harper's Family Tax Cut Credit Does Not Deliver True Income-Splitting

Prime Minister Stephen Harper on the federal campaign trail in 2011 pledged to allow spouses and common-law partners with children to split their incomes on their tax returns once the budget deficit was eliminated.

This would mean that when one partner is in a higher marginal tax bracket, that person would be able to split some income with the other person. When the money moves to the other return it is taxed at a lower rate and they save tax dollars.

For example, Edward makes $60,000 a year; Janet makes $20,000. Edward is taxed at a marginal rate of 22 per cent, Janet at 15 per cent. By shifting $20,000 of Edward's income to Janet's tax return, all of the family's income is now in the 15 per cent tax bracket. This reduces the amount of taxes due.

However, with a projected budget surplus in 2015, what the Conservative government announced is the Family Tax Cut. Although it sounds like the original campaign promise, the Family Tax Cut does not deliver true income-splitting. Rather, it is a lookalike offering.

True income-splitting, however, is actually being delivered for pension income. Seniors are allowed to divide eligible pension income and shift it from one partner's tax return to the other. It becomes part of the other person's taxable income. Although the other person may now end up owing some tax, the couple's combined taxes due will be lower than before the split.

For non-pension income, what the government has delivered is, at most, hypothetical income-splitting. How much would Edward and Janet save under the government's plan? Rather than actually decreasing his taxable income with a corresponding increase to her total, Edward receives a tax credit of up to $2,000, based on the amount that could have been saved by true income-splitting. It doesn't affect Janet's tax return at all. Because this takes place only on a Federal schedule, it also doesn't affect the amount of provincial tax either pays.

Using our sample couple, let's look at another scenario. Janet is earning $100,000 and Edward stays at home to care for their two children, aged four and eight. Edward's total income is $1,200 from the Universal Child Care Benefit (UCCB). When you take into consideration other credits like the basic personal amount, spousal amount and employment amount, their combined Federal tax before income sharing is $14,898.

But if Janet were allowed to truly split her income with Edward, their combined Federal tax would be $11,422, a potential savings of $3,476. But because the Family Tax Cut has a maximum amount of $2,000, Janet would claim $2,000 as a Federal Tax Credit to be subtracted from taxes due. There is no provincial savings and, as with all non-refundable credits, it only benefits those with sufficient taxable income to utilize them.

This means that what the government delivered is a $2,000 federal tax credit, and not a split income for Janet and Edward.

This is a simplification of the process but the numbers hold true. Although there is some benefit and we are all happy to save any tax dollars we can, we are not getting the impact we anticipated from income splitting.

A few important notes about the income-related provisions of the Family Tax Cut:

  • All of the numbers referenced above apply to federal tax only. The provisions don't affect the amount of provincial tax collected or owed.
  • It is retroactive, so you can claim it on your 2014 tax return.
  • There is no effect on the income of the partner who earns less, and only one partner can claim the credit.
  • While, technically, as much as50,000 in income can be shifted, the tax credit is capped at2,000.
  • This applies only to couples with at least one child younger than 18 at the end of the year with whom they ordinarily resided throughout the year. There are exceptions for when a child is born, adopted or dies during the year.
  • Couples who have split before the end of the year aren't entitled to claim the credit. However, in the event where one of the partners dies during the year, the option is available.
  • The credit can't be claimed by someone who was in prison for 90 days or more in the year, although the partner of that person could possibly use the provision. Others excluded from claiming the tax credit: those who don't file a tax return, those who are splitting pension income and those who declare bankruptcy during the year.

To maximize the benefit of the Family Tax Cut, it is important to understand marginal tax rates, and how non-refundable tax credits affect your return. It is rare that the government introduces retroactive tax changes so, if you qualify, make sure you take full advantage.


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