Finance & Investing: Gordon Pape — DIY Tax returns

It’s income tax time again, and you’re probably dreading the ordeal. Well, here’s a little news that may motivate you to get on with it. According to the Canada Revenue Agency, the majority of tax filers received a refund for the 2007 tax year, with the average amount being an impressive $1,400. That was up $200 from the year before. If that doesn’t inspire you to pull out those receipts and get working, I don’t know what will.

To get the maximum possible refund, you’ll need to do some complex calculations. Even if you hand it over to a tax preparation firm, you’re not guaranteed the best results. Every year, I read of tax preparers reaching wildly different conclusions based on exactly the same data.

My advice? Do it yourself unless you have an established relationship with a professional that you trust. No one cares about your money as much as you do!

The easiest and most effective way to prepare your own return is to purchase a tax preparation software program. They aren’t perfect — every one that I tested last year had some kind of flaw — but they will per-form the calculations and offer tips on tax savings you may have overlooked.

The most popular software by far is QuickTax, which is produced by Intuit Canada. The basic version sells for $19.99, but it is suitable only for those with very simple returns and does not contain one of the most important components for many Zoomers: a pension-splitting optimizer. To get that, you need to move up to the standard version, which is priced at $39.99.

I strongly recommend that anyone who wants to split pension income choose software that contains this feature. The calculation is extremely complicated, and last year even many professionals got it wrong. But a word of warning: even the software you purchase may not come up with the right numbers. I have not tested the QuickTax optimizer since it wasn’t in last year’s version. But I did experiment with another program, UFile. In preparing the 2007 returns for my wife and me, its pension-splitting feature turned out to have a coding flaw that affected people in a specific income range. (The company assures me the problem will be fixed in the 2008 edition.)

There are a couple of important points to keep in mind as you work through the pension-splitting conundrum.

First, when we finally figured out our optimum pension split for 2007, my wife’s income was increased to the point where she crossed into Old Age Security clawback territory. I was surprised at that, but the numbers didn’t lie. This meant that the federal government withheld more tax from her OAS payments for the rest of the year. If you rely on that monthly income, you may not want to go over the clawback threshold, even if it means a higher tax bill for 2008.

Second, the optimal split may result in one spouse having to pay quarterly installments or increase the amount already being paid. This is another issue to consider.

The bottom line is that the computer result should not be the sole factor in determining your final decision on pension splitting. It can only tell you the most efficient way to handle it from a dollars-and-cents perspective; you have to decide whether other considerations override that result.

Here are three other items to watch for.

1 Capital losses Unfortunately, many people lost money on their investments in 2008. If you sold any securities at a loss from a non-registered portfolio, you have an allowable capital loss that can be deducted from any capital gains. (Losses incurred in RRSPs, RRIFs, LIFs, etc. don’t qualify.)

If you had any capital gains in 2008 (which is possible since the S&P/TSX Composite Index hit an all-time high in early June before tanking), you can deduct any losses from the taxable amount of the gains. Use Schedule 3 of the return to do this.

If your losses exceeded your gains in 2008, you can carry those back three years and apply them against taxable capital gains declared in 2005, 2006 or 2007. To do this, complete Area III of form T1A– Net Capital Loss for Carryback. It is available on the website of the Canada Revenue Agency.

If, after all that, you still have unused capital losses, they can be carried forward indefinitely and used against future gains — which, hopefully, you’ll have when the stock markets recover.

2 RRIF repayments In late November, Finance Minister Jim Flaherty released an economic statement that plunged the country into a full-scale political crisis. That has since been resolved, but one of the measures announced by Flaherty at the time may have an impact on your tax return.

I’m referring to the one-time 25 per cent reduction in minimum RRIF withdrawals, which only applied to the 2008 tax year. Because the announcement came so late, many people were unable to take advantage of it. However, you are allowed to redeposit that amount in your RRIF and claim a tax deduction when you file your return. No specific deadline was set for the redeposit; it can be done until 30 days after the legislation is passed. Ask your financial institution if you are unsure of the final deadline.

So if your minimum RRIF withdrawal in 2008 was $10,000 and you took out the entire amount, you can put up to $2,500 back into the plan before the deadline and claim a deduction. Your financial institution will issue a T4RIF for the full amount of the withdrawal, as well as a receipt for the amount of the re-contribution.

3 Medical credit Many families shell out hundreds or even thousands of dollars annually on medical expenses ranging from hearing aids to prescription medicines.

These costs can be claimed on line 330 of Schedule 1 of the return. However, the first three per cent of your income is excluded, to a maximum of $1,982. Therefore, the spouse/partner with the lowest net income should claim the medical credit on behalf of the family. This can increase the value of the credit substantially.

For example, suppose your family spent $5,000 on allowable medical expenses last year (these costs may include travel medical insurance, by the way). Let’s assume the husband had income of $50,000 while the wife had $20,000. If he claims the medical credit, he will have to deduct $1,500 from the medical expense, leaving only $3,500 for the tax credit calculation. But if the wife claims the expenses, only $600 will be disallowed ($20,000 x 3%), and the credit will be based on a total of $4,400.

There are undoubtedly many more ways you can cut your tax bill, depending on your personal circumstances.

So take your time preparing the return and pay special attention to the tips in the CRA’s General Income Tax and Benefit Guide and any alerts your tax software may give you. Yes, it’s a nuisance and it is time-consuming. But if the payoff is a few hundred dollars more on your refund cheque, it will be worth it.

— Gordon Pape

Gordon latest financial book, Tax-Free savings accounts: A Guide to TFSAs and how they can make you rich, is published by Penguin Group Canada.