Tax planning for children

By arranging the financial affairs of our children in a certain manner, we may be able to reduce the family tax liability. We shall review a number of situations where certain expenses of our children may produce a potential tax benefit.

Tuition Deduction – Tuition fees in excess of $100 are deductible if they are for a course at a post-secondary school level. If the educational institution is outside of Canada, certain restrictions may apply, as the student must be enrolled in a full-time course of at least 13 consecutive weeks duration and the course must lead to a degree. If the student lives near the Canada/U.S. border and commutes to an American post-secondary institution, the restriction of 13 consecutive weeks is not applicable. The definition of tuition is very broad and includes:

• Admission and academic fees
• Examination fees
• Charges for libraries, labs and health services
• The cost of books included in the fee for correspondence courses

Education Amount – Students may claim an education amount of $400 for each whole or part of a month the student was in full-time attendance at a ‘qualifying educational program’ at a ‘designated educational institution’. A ‘qualifying educational program’ must last at least 3 consecutive weeks and require a minimum of ten hours of instruction or work in the program each week. Most Canadian universities and colleges are considered as ‘designated educational institutions’. If the educational institution is outside of Canada, the course must last a minimum of three weeks and lead to a degree.

A part-time student may qualify for a $120 per month education credit. If the part-time student were disabled, they would qualify for the full $400.

Interest Paid on Student Loans – Commencing in 1998, interest paid on student loans qualifies for a tax credit. If a student elects not to claim this interest, it may be carried forward for up to five years. This may be an appropriate strategy if the student has insufficient income to fully utilize the tax credit.

Moving Expenses – Students may move to attend a post-secondary institution, move at the end of the school term to seek summer employment or move upon graduation to seek full-time employment. If the move results in the student living at least 40 kilometers closer to the educational institution or new work location, the following rules are applicable:

1. If the student moves to enroll in a full-time program at a post-secondary educational institution, moving expenses can only be deducted to a maximum of the student’s income for the year from scholarships, bursaries and research grants.
   
2. A move within Canada to take a job, which includes summer employment, work term or starting a business, the student can claim moving expenses, as long as the deduction does not exceed the income earned at the new location.

Scholarship Income – Scholarship income, which includes fellowships, bursaries, and prizes for achievement are exempt from tax on the first $3,000 of such income.

Research Grants – If a student receives a research grant, the amount is included in the student’s income, but the following items can be claimed as a deduction against the grant:

• Traveling expenses, including meals and lodging that were incurred in the course of the student’s research.
• Fees paid to assistants
• Cost of equipment, fees and lab charges
• Tax Planning Opportunities

Income Splitting Opportunity – Assume a student attends university for eight months and pays tuition of $5,000 per year. Based upon these assumptions, the student can earn approximately $15,700 per year without paying any taxes.

This is calculated as:

Personal credit $7,500
Tuition 5,000
Education amount 3,200

Total: $15,700

If the student does not earn $15,700 per year, the family should consider possible income splitting opportunities to put more income into the hands of the student. The techniques may include employment opportunities from a family owned business or investment income using the various techniques to restrict the application of the attribution rules.

Assuming they have reached the age of 18, students could provide childcare for the younger children in the family while the parents worked. The parents could deduct the amounts paid within the limits that will be reviewed later.

Transfer of Unused Deductions – If the student has insufficient income to utilize the tuition and education amount deductions, it may be possible to transfer a portion of the deduction to a spouse, parent or grandparent. The rules related to these potential transfers are as follows:

• If the student does not need all of the tuition and education amount to reduce the federal tax to zero, the unused portion may be transferred to a spouse or parent
• The transfer can only be to one person
• The maximum amount of the transfer is $5,000 minus the amount claimed by the student
• If the student’s spouse claims the marriage credit, the unused amount cannot be transferred to a parent or grandparent
• The student may select which parent or grandparent receives the transfer and the student must make the designation in writing

If the student does not claim the education or tuition credit, it does not have to be transferred to a spouse, parent or grandparent. The student has the option of carrying the unused portion forward and making a claim in a future year.

Filing a Tax Return – If the student’s income is insufficient to have any taxes payable and no taxes were withheld at source, the student may not be required to file an income tax return. However, any income from employment or self-employment qualifies as ‘earned income’ for purposes of the RRSP contribution limits. Even if the student is not making an RRSP contribution, the filing of a tax return will result in the CRA calculating the student’s RRSP carryforward amount, which can be utilized in future years.

Should a Child contribute to an RRSP? – Most children with modest amounts of income do not contribute to an RRSP for a number of appropriate reasons, including:

1. Although the student has earned income, there may be no taxes payable. As a result, an RRSP contribution would not result in a tax deduction in the current year.
2. If the student paid taxes, any RRSP contribution may result in minimum tax savings, as the student would be in a very low tax bracket. The student may not be prepared to give up the cash to the RRSP to generate a small tax reduction; or
3. Given that retirement may be more than forty years in the future, it may not be considered a priority.
   

These are all valid reasons, but it must be appreciated that registered retirement savings plans can be utilized for reasons other than funding retirement. They can be used to finance a down payment on a home or fund a return to school under the RRSP Learning Plan. Consideration should be given to making RRSP contributions as early as possible for the child to take advantage of these potential opportunities. Even, if the child does not want to use his or her money for an RRSP contribution, parents should consider gifting the funds to the child in order to fund the RRSP.

Child Care Expenses – The rules related to childcare expenses are reasonably straightforward. The available deduction is $7,000 per child under the age of seven and $4,000 per child ages 7 to 16. The lower income spouse must make the claim. When making a claim for childcare expenses, consider the following:

• Receipts are not required to claim child care expenses. However, if challenged by the tax department, taxpayers must be able to support the payments. Cancelled cheques are normally adequate documentation. It is a fact of life that many childcare providers have a two tier pricing system – one price with receipts and a lower price if no receipt is required. Presumably, the day care provider does not declare the income if receipts are not provided. If a parent is dealing with a childcare provider that has ‘two price’ fee structures, they may consider the following strategy. Select the lower rate offered by the day care provider. Pay the fee by cheque; do not demand a receipt and claim the full amount paid as a tax deduction. This strategy may maximize your tax deduction, but one may lose their babysitter if the tax department performs an audit.
• Allowable childcare expenses include summer camps and sports camps, such as hockey schools.
• Childcare payments can be made to a person related to the child, if that individual is at least 18 years of age.
• Qualifying expenses also include advertising expenses and placement fees to locate qualified childcare providers.