Tax update: Market mayhem, loss planning and other opportunities

From a tax planning point of view, there has been an extraordinary amount of change introduced and implemented that will affect client assets. Markets, too, are wreaking havoc on portfolios — havoc that needs to be managed and accounted for, in some cases before December 31.

There are tax break “gifts” you could manage for some clients that would directly impact their cash flow around December 15, the date many people make tax installment payments to the Canada Revenue Agency.

Now is also an excellent time to do some pre-Christmas networking with accountants and other professionals, to discuss and then strategically manage client liabilities.

These are just a few of the topics covered by Evelyn Jacks and John Poyser in the Knowledge Bureau’s national workshop tour that runs until November 21.

In her year-end update, the president of the Knowledge Bureau and author of 42 tax books that are well-known in the industry, discusses the global financial crisis and how it has changed the issues to consider when doing year-end tax reviews, or retirement, succession or estate planning with clients.

Corporate layoffs, severance negotiations, tax loss selling, income splitting, pension hedging and possible margin calls are all relatively new considerations to take into account, compared to the considerations advisors might’ve had in mind at this point in recent years.

Along with the usual need to make sure charitable donations are taken care of before the end of the year, Jacks says seniors with pension income likely need a closer review of their financial situation and tax liabilities, business owners have year-end strategies to capitalize on and a lot of people need to consider whether or not there are any opportunities available to them through loss-selling.

“I think that people need to discuss issues related to the financial crisis and how they impact their clients. The phone call [this year] about year-end planning is really about the financial crisis and what you can do to use the tax system to your advantage if you have consequences,” she says.

Back-filing, errors and omissions

Advice about the need for clients to actually file tax returns in the first place, in order to create unused registered account contribution room and room in the new Tax-Free Savings Accounts that are available in January might seem basic, but a surprising number of Canadians are chronically late in filing their tax returns. Filing returns is also important if clients suffered any capital losses — these losses can be carried forward indefinitely, but only if they are properly reported in the first place. Given the 10-year window of opportunity that the CRA allows for late back-filing, any clients or would-be clients with tax returns from 1998 that are not yet filed, have until December 31 to do so.

A more likely scenario advisors will face, though, is one where clients suffered fluctuating income levels during the year, or perhaps even a job loss at some point. If this is true, clients could be overpaying their taxes. “Any time income has gone down, advisors and their clients should be reviewing whether they need to make their December 15th installment payment,” says Jacks. This typically affects people who are self-employed, but can also affect seniors and investors who rely on investment income, those who are getting taxable support payments from an ex-spouse and those who simply did not have enough tax deducted from their net income. “It would be great if they didn’t have to make that payment. They can also adjust the January and March 2009 installments.”

If there’s a chance they are overpaying, Jacks says clients can inform the CRA that they’d rather have their installment payments based on an estimate of this year’s taxes or on a prior year. “Instead of looking back two years, we look back one year,” she says. “If you’re wrong, of course they’ll ask you to pay some interest. But if they’re wrong in the billing message and you still owe more, they won’t ask you to pay interest.”

Severance, layoffs and retirement

Clients facing the unfortunate prospect of unemployment almost certainly need assistance with cash flow and tax planning, particularly if there is a severance package involved.

If this has happened, or if the writing is on the wall, it’s worth discussing the issue and getting clients to talk to their employer about when they would like to receive that compensation. If they take their packages at the end of a full year of paid employment, the amount will likely bump them into a higher tax bracket.

If a regularly scheduled layoff is in the cards — often this is the case with construction and other seasonal workers — planning before the end of RRSP season is in order to fend off the need to repay unemployment insurance benefits. Clients with net income exceeding $51,375 likely need to do some RRSP planning to avoid EI repayment.

Planning for seniors

Thanks to the federal budget, those on the verge of retiring also have a new strategy at their disposal — phased retirement that allows retirees to draw up to 60% of their pension benefits while still accruing or paying into the plan, while they work part time.

The reason Jacks suggests a tax review for seniors, though, is the matter of pension income splitting that was also introduced. Although clients are not allowed to split RRSP income with their spouses, for tax purposes, until they turn 65, money from a company pension plan can be split with a spouse at any age. “If you have the option to take money out of an RPP and an RRSP, you want to take the money out of an RPP first, if you’re younger, because you’ll be able to do income splitting with your spouse.”

Given that the strategy is new this year, many seniors likely overpaid taxes on last year’s return. “You’ll want to recover any overpaid taxes from last year’s return to average back into the market — this low market — at the end of the year. In fact, that’s a good rule for anyone who thinks they’ve overpaid. Now is a good time to have a review.”

Finally, Jacks suggests advisors review RRSP meltdown strategies with older clients — the widows and widowers who are the last surviving spouse with several hundred thousand dollars in their registered accounts still. When the client dies, the entire amount becomes taxable, usually spiking them into the highest tax brackets. Starting in January, though, clients can shelter those assets in a TFSA — a good talking point for use with those clients who are most interested in leaving some of their nest egg behind.

Business owners

Do you know any clients between age 59 and 65 who are self-employed or otherwise able to take two months off work? Clients can apply to begin receiving CPP before they turn 65 if they are not working for two consecutive months, or if they earn less than the allowable maximum pension payment for two consecutive months. According to the Knowledge Bureau, those who meet the qualifications can collect slightly reduced benefit payments (benefits are reduced by 6% annually or 0.5% per month until the client reaches age 65) and can avoid making expensive annual premium payments. When combined, Jacks says the accumulated savings can be more than $20,000.

Business owners who don’t qualify to use this strategy still have other options to consider, including asset and acquisition strategies, purchases that can be made before the end of the year (purchase new cars, office supplies and fill up the gas tank before December 31 to get tax write-offs right away) and manager compensation planning; those who are incorporated should consider whether or not they should take a bonus or dividend, plus whether or not income should be split off to family member employees.

“Reviewing owner-manager compensation planning for 2008, some year-end strategies, plus planning for 2009 and beyond is important at this time of year,” says Jacks. “Year-end planning is more important than ever this year. Not just because of the new investment accounts like the tax-free savings account or the registered disability savings plans, but also because people’s situations in the economy and within their families have changed quite dramatically in many cases. When money goes in motion like that, that’s when we want to have a solid year-end review.”