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Tax Briefing(s)

International Financial Reporting Standards ("IFRS") have now replaced Canadian Generally Accepted Accounting Principles ("CGAAP") and the 2010 IFRS transition date opening statement of financial position (formerly known as the balance sheet) must be included in public company filings on Canadian stock exchanges in the 2011 Q1 filings. For Q1’s ending March 31, 2011 the filings are due by June 14, 2011 for non-venture issuers and June 29, 2011 for venture issuers. Failure to include the transition date opening statement of financial position will constitute a significant financial statement filing default and will result in a cease trade order. The one-time 30 day filing extension is not available for subsequent filings.

Key items to remember in your 2011 Q1 IFRS financial reporting:

1) You MUST include an opening 2010 IFRS statement of financial position in your Q1 report. Consider having this statement audited as part of your Q1 filing. Why?

Canadian securities commissions are concerned about investor confidence. Investors need to understand the difference in financial performance due to the change in accounting standards from CGAAP to IFRS.

"Issuers should ensure that the financial information released in the first three quarters of 2011 is accurate and will not require restatement after the annual adit"

Auditor involvement in the Q1 filing reduces the chance of significant differences arising between 2011 interim reporting and the 2011 annual filing.

2) The 2011 Q1 IFRS filing MUST include:

Statements of financial position are to be presented in the first IFRS interim financial report for calendar year-end companies as follows:
First interim reporting date March 31, 2011	Comparative reporting date December 31, 2010	Transition date January 1, 2010

ii) Presentation currency and functional currency - IFRS requires that presentation currency always be prominently displayed on the face of the financial statements. Functional currency should be disclosed in the notes to the financial statements to the extent that it differs from an issuer’s presentation currency. Foreign currency accounting under IFRS is much different than CGAAP and it is expected that most issuers will experience a change in their financial reporting due to these accounting differences.

iii) Presentation of statement of cash flows – Interim IFRS statements of cash flows report numbers for the year-to-date period and the corresponding comparative period only.

iv) Significant accounting policies – Disclosure of all changes to the CGAAP significant accounting policies contained in the comparative audited financial statements to the IFRS policies presented in the 2011 Q1 financial statements. Discussion of management’s significant judgments made in the application of IFRS should also be disclosed.

"Issuers must include an unreserved statement of compliance with IAS 34 – Interim Financial Reporting in their first IFRS interim financial report."

v) International Financial Reporting Standard 1 ("IFRS 1") First-time Adoption of international financial reporting standards note disclosure – Disclosure of the IFRS 1 exemptions and elections that were considered in the transition from CGAAP to IFRS should be provided in the 2011 Q1 financial statements. This disclosure should be provided even if there were no IFRS1 exemptions or disclosures taken. Where there are changes the note MUST include CGAAP to IFRS reconciliations of equity and comprehensive earnings for each of the three statements of financial position.

3) Other IFRS Reporting Changes:

Retroactive restatement of comparative periods - An opening statement of financial position MUST be presented in both the annual and interim financial reports when the issuer restates or reclassifies comparatives.

Additional GAAP Measures Required by IFRS - IFRS mandates certain minimum line items for financial statements and requires presentation of additional line items, headings and subtotals when such presentation is relevant to an understanding of an issuer's financial position and performance.

Explanatory note disclosures – IFRS requires expanded footnote disclosure for individual areas contained in IFRS financial statements including discussion of management’s key assumptions used in accounting estimates and continuity schedules for long-lived assets and provisions.

CEO/CFO certifications - The standard certification form has been revised to include IFRS terminology, so issuers should ensure they are filing the most recent form with their first IFRS filing.

Discuss the information contained in this notice during your final 2010 CGAAP year end audit and plan to get your 2011 Q1 Interim Financial Reports right the first time."

Existing Canadian auditing standards are to be replaced with international auditing standards that will be adopted as new Canadian Auditing Standards (CASs). The CASs come into effect for audits of financial statements for periods ending on or after December 14, 2010.

New Canadian Auditing Standards: What does it mean to you?

Auditors across Canada will soon be following new, high-quality, international standards that deal with audits of financial statements. The Auditing and Assurance Board (AASB) have issued the new Canadian Auditing Standards (CASs) that will soon be used in Canada and are now being used in a number of countries around the world. These new auditing standards will provide your auditor with the latest audit tools and procedures to address today’s complex business environment.

The new auditing standards apply to audits of all entities, whether public or private, for profit or not-for-profit, and in both the public and private sector. They will be used to audit financial statements prepared in accordance with any acceptable financial reporting framework, including International Financial Reporting Standards, the new Canadian accounting standards for private enterprises and others.

The form of the audit report under the CASs is consistent with that used in many jurisdictions globally and provides increased clarity as to the roles of management and the auditor in the preparation and audit of the financial statements.

Questions you may be asking yourself:

1. Why are auditing standards changing now?

International standards have recently been upgraded and are high-quality, clear and understandable. More than 100 countries have already adopted these standards or are in the process of doing so. The move to CASs enables auditors to conduct consistent and comparable audits using standards that are recognized worldwide. It reduces confusion in the Canadian marketplace as to how our auditing standards compare internationally. There is nothing unique about auditing in Canada, so the adoption of international standards eliminates the need for Canada to maintain its own separate set of standards.

2. When will CASs come into effect?

The new Canadian Auditing Standards come into effect for audits of financial statements for periods ending on or after December 14, 2010. For periods ending before this date, audits will be performed using existing standards (GAAS). Early adoption of the CASs is not permitted; however, auditors may decide to implement aspects of the CASs before the effective date, as long as they can still demonstrate compliance with existing Canadian GAAS. This might be done, for example, where a new Canadian Auditing Standard provides more guidance for the auditor than the current standards.

3. How will the new audit standards affect me?

The nature and extent of differences you might notice from prior year audits will depend on your entity’s circumstances. Overarching standards dealing with professional ethics and how the auditor gains an understanding of your entity and identifies and assesses risks of misstatement of the financial statements, are fundamentally unchanged. However, the CASs contain several new or significantly changed auditing standards that may have implications if they are relevant to the audit of your entity. Your auditor will help you to understand how the new auditing standards may change the audit in your entity’s specific circumstances. These changes may also affect the assistance that you give the auditor in conducting an efficient audit. It will also affect the nature and extent of communications between the auditor and the audit committee relating to specific aspects of the audit.

4 How will the new standards affect the auditor’s report?

The new auditor’s report will look quite different from the existing report. Financial statement users will find auditor’s reports to be a more useful source of information about the audit and the financial statements. The CASs contain an expanded form of auditor’s report that more clearly explains the roles of management and the auditor and contain standards that allow the auditor, where considered necessary, to include additional information that is considered fundamental to users’ understanding of the financial statements or the audit.

5. How will the change to new auditing standards impact audit fees?

As with all significant changes to standards, audit time and related costs may well increase during the transition period. However, the move to new auditing standards will create opportunities for the auditor to re-evaluate how the current audit is conducted and for you to modify the assistance you give the auditor to allow them to conduct an efficient audit. Use this occasion to talk to your auditor about your needs.

6. How can I learn more?

As the recognized leaders in providing guidance and education in applying standards, Chartered Accountants are uniquely positioned to support the business community in managing these changes.

Additional information on Canadian Auditing Standards is available on the Chartered Accountants of Canada website at www.cica.ca/CAS

Compliments of:
MORGAN & COMPANY
CHARTERED ACCOUNTANTS

September 16, 2010

The Federal Government proposed a number of changes to the taxation of Employee Stock Options in their March 4, 2010 budget. On August 27th the government released the draft legislation to implement their proposals. In our view the income tax rules for Employee Stock Options have always been somewhat problematic and often created tremendously punitive and arguably unfair results. These new rules alleviate some of the old tax problems, but have at the same time introduced new cash flow challenges for companies and individuals. Below are our comments on some of the major aspects of the proposed changes.

Taxation of Employee Stock Option Cash Outs

It was previously possible for companies to structure plans to give employees the right to surrender their stock options for cash proceeds instead of actually exercising the option and selling the shares. The employee could apply the Employee Stock Option tax rules (i.e. essentially only 50% of the benefit being taxable employment income), and the employer was able to claim a deduction for the cash paid. Under the proposed rules, the employee will not get to utilize the special 50% inclusion tax rules unless the company explicitly elects that it, or any non-arms length person, will not claim a tax deduction on the payment.

Morgan & Company Comments – this will likely have little impact on most of our clients as it is our observation that it is rare for a junior public company to offer a cash out arrangement. Further, even if such an arrangement occurred, almost all junior companies are in a tax loss position and the denial of a deduction on the cash paid out would be of little consequence.

No Tax Deferral on the Exercise of Stock Option Benefits

For a number years, a portion of the benefit (up to $100,000 per year) arising from the exercise of a option to acquire publicly listed shares could be deferred until the shares were sold. This deferral will cease and the taxable benefit will occur upon the exercise of the option for options exercised after 4:00 pm EST March 4, 2010.

Morgan & Company Comments – this will effectively reinstate the tax rules as they were ten years ago. A taxable event will now once again occur for an individual upon the exercise of the option instead of when the security is ultimately sold. Also note the new tax remittance requirements discussed below.

Existing Deferred Stock Option Benefits – Special Partial Tax Relief

Where a taxpayer has deferred stock option benefits arising from options exercised prior to March 4, 2010 there is a new special election which will provide that the income taxes arising from the sale of the securities cannot exceed the gross proceeds received. The mechanics to accomplish this are a little convoluted, but the result should provide relief in those situations where people have a large deferred stock option benefit and worthless stock. Shares that qualify for this special treatment must be disposed of prior to 2015.

Morgan & Company Comments - Interestingly, the historic problem with stock options is that if shares are sold at a later date at a loss, the resultant capital loss is not deductible against the related taxable benefit employment income. This has always been a problem and will continue to be a problem except in the narrow circumstances described above.

Withholding Tax Remittance Requirements

The exercise of an employee stock option (and directors are deemed to be employees under the Income Tax Act), creates an employment income benefit that must be reported on a T4 slip. As such, income tax and Canada Pension Plan ("CPP") amounts must be remitted to Canada Revenue Agency ("CRA") within their timelines shortly after the exercise. In the past CRA was lenient in their enforcement of these rules due to the non-cash nature of the transaction. That leniency will be legislated away and full withholding and remittance are now required on any stock option exercised. The withholding requirement will not apply to options granted prior to 2011 pursuant to a written agreement in place as of March 4, 2010 and where the agreement includes restrictions on the disposition of the optioned shares.

Morgan & Company Comments – This provision will have an immediate negative effect on cash flow, and this is particularly problematic if the employee’s only source of income from a company is from stock options. One method to deal with this issue would be for the company to require that a person exercising an option pay not only the exercise price, but also pay to the company the amount of tax and CPP it will be required to remit on the individuals behalf. Upon remittance of this additional amount the company would be cash neutral except for its share of any CPP. CRA can and will assess punitive and sizable penalties and interest on late or missed remittances. It should also be noted that directors are potentially personally liable for any such withholding, penalties and interest amounts assessed against a company, and CRA regularly pursues such collection action where companies are insolvent.

Concluding Remarks

This draft legislation, while somewhat helpful for persons with large deferred stock option benefits connected to low value securities, is not helpful to most junior public companies for several reasons. The draft rules fail to address the fundamental problem that the deemed employment income benefit cannot be offset by a capital loss should the related securities decline in value. Further, the requirement for companies to be responsible for remitting cash withholdings on a non-cash, arithmetically determined income benefit will likely prove to be problematic in practice and will transfer greater risks to company directors. Lastly, it should be noted that these rules apply only to employee stock options; they do not apply to options granted to third parties for independent consulting services.

The above comments and remarks are intended to provide an overview or brief summary of some of the existing and draft rules. The comments are not, nor are they intended to be a complete or exhaustive analysis. For further information please contact us or visit us at www.morgan-cas.com.

A number of circumstances and developments have come together over the past few years to make working from a home office—once almost unheard of—a common fact of business life. First and foremost, of course, is the technology (particularly communications technology) which enables the home-based worker to have access to all of the information and services available to his or her in-office counterpart. Given the right technology, it’s nearly as easy for an employee working from home to send and receive e-mails through the employer’s communications network and access the people, information, and services needed to do his or her job in the same way as it would be if he or she was at the office.

While technology has made it possible to work from home on a regular basis, other developments have made the daily commute to the office, and the maintenance of large offices in major urban centres less and less appealing. The ever increasing price of gasoline has made the cost of that daily commute prohibitively expensive in some cases. As well, there is an increased awareness of the environmental cost of having most major highways clogged each morning and evening with hundreds of thousands of cars sitting in traffic gridlock. And finally, the cost of renting office space in most major Canadian cities means that most employers are at least willing to consider the cost savings which might be realized from work-at-home or telecommuting arrangements for their employees.

Along with the greater availability of work-at-home arrangements for employees, there has been a significant increase in the number of self-employed Canadians. And while not all of the self-employed work from home, it’s fairly common for those venturing into the world of self-employment for the first time to save costs by operating their business, at least initially, out of a home office.

One of the things which makes a telecommuting or work-at-home arrangement attractive, aside from avoiding the daily commute, is the tax deductions which can be claimed. While those benefits, especially for employees, are not necessarily as generous as is popularly believed, it is the case that working from home can make costs which would be incurred in any event deductible for tax purposes.

As is usually the case in tax matters, the rules differ for employed taxpayers and for the self-employed, as the latter enjoy a greater degree of latitude in the deductions which may be claimed. That said, both the employed and the self-employed must meet the same basic two-part test in order to be eligible to deduct home office expenses, and that test is as follows:

• the home office must be the place at which the taxpayer principally (defined by the Canada Revenue Agency as more than 50% of the time) performs the duties of employment or must be the taxpayer’s principal place of business: or

• the home office must be both used exclusively for the purpose of earning income from employment or from the business and must be used on a regular and continuing basis for meeting customers or clients of the employer or the business.

A self-employed taxpayer who meets these criteria is entitled to claim (on Form T2124(E) (Statement of Business Activities)) expenses such as property taxes, rent, or mortgage interest (but not mortgage principal amounts), insurance, utilities costs etc. However, such expenses are not deductible in their entirety: rather, the taxpayer must apportion the expenses based on the percentage of the total space which is used as a home office. For example, a self-employed taxpayer whose home office takes up 15% of available floor space and who incurs $2000 each year in qualifying expenses would be entitled to deduct $300 ($2,000 times 15%) in home office expenses for that year. There is one further caveat, in that the amount of home office expenses claimed in a year cannot be greater than the amount of income from the business. It’s not, in other words, possible to run a business which produces $5,000 in income for the year and to then claim $10,000 in home office expenses relating to that business. However, where home office expenses exceed business income in any given year, the excess expenses can be carried over and claimed in a subsequent year in which there is sufficient business income to offset those expenses.

Employed taxpayers who meet the two-part test set out above must meet a further condition before being eligible to claim home office expenses, as follows:

the employer must provide the employee with a Form T2200, which indicates that the employee is required by his or her contract of employment to provide and pay for the expenses related to the home office;
the employee must not have been reimbursed by the employer for such expenses; and
the expenses must have been used directly in the employee’s work at home.

Once the T2200 has been issued, and the other conditions are met, an employee who is a tenant can claim a proportionate part of his or her rent. An employee who owns his or her own home can claim a proportionate percentage of utilities and maintenance costs. An employee is not, however, entitled to claim any portion of mortgage interest, property taxes, or home insurance costs paid, and cannot claim capital cost allowance.

As is the case with self-employed taxpayers, an employee’s deduction for home office expenses cannot be greater than the income from employment income for the year to which the expenses relate. And, once again, carryover to a subsequent taxation year is allowed.

One of the tax benefits which is commonly supposed to exist for the home office workers is the right to claim depreciation (or capital cost allowance (CCA), in tax parlance) on one’s home for tax purposes. For employees, however, such a claim is simply not allowed. And, while the self-employed may be entitled to claim CCA on a home, making such a claim can create a short-term benefit with long-term costs. Making a CCA claim on one’s home is likely to erode the principal residence exemption from capital gains tax which is claimable when a home is sold, and that exemption is almost always more valuable, in monetary and tax terms, than any CCA claim which might have been made.

Being able to claim home office expenses doesn’t result in the huge tax benefits that some popular tax myths claim. However, it can and does permit qualifying taxpayers to claim a portion of home ownership (or rental) expenses which would have been incurred in any case while also avoiding the dreaded daily commute, making it a win-win scenario.

The information presented is only of a general nature, may omit many details and special rules, is current only as of its published date, and accordingly cannot be regarded as legal or tax advice. Please contact our office for more information on this subject and how it pertains to your specific tax or financial situation.

As if dealing with bills from the recent holiday season and trying to come up with the funds for an RRSP contribution weren’t enough, February is also the month in which millions of Canadian taxpayers receive an Instalment Reminder from the Canada Revenue Agency (CRA). For many of those taxpayers, who have received many such notices in the past, the reminder and the tax instalment process are familiar, although not necessarily welcome. For those who are receiving one for the first time, however, both the reminder itself and figuring out how to deal with it can be baffling.

Most Canadians, certainly those who are employed, have income tax deducted “at source”, meaning that their employer deducts an amount for income tax from their paycheques and remits it to the CRA on their behalf. However, for those who are self-employed or, frequently, those who are retired, no such deduction is automatically made from their income, and the issuance of an Instalment Reminder by the CRA may be the result.

The receipt of such a Reminder may be particularly puzzling to the newly retired, who have been accustomed to having tax deducted at source from their paycheques throughout their entire working life. However, no matter what the source of one’s income or the reason that tax has not been deducted at source, the options available to a taxpayer who receives such a reminder are the same.

Canadian federal tax rules provide that a taxpayer may be required to pay income tax by instalments where the amount of tax owing on filing is more than $3,000 in the current year (2012) and either of the two previous years (2010 or 2011). Essentially, the requirement to pay by instalments will be triggered where the amount of tax withheld from the taxpayer’s income is at least $3,000 less than their total tax liability for the current and either of the two previous years. Such instalment payments of tax are due on March 15, June 15, September 15, and December 15 of each year.

An Instalment Reminder issued by the CRA in February 2012 will specify two amounts, one to be paid by March 15 and the other due by June 15. Those amounts represent the CRA’s best estimate, based on the taxpayer’s return filed for the 2010 taxation year, of the net tax will which be payable by the taxpayer for 2012. The taxpayer then has the following three options.

First, the taxpayer can pay the amounts specified on the Reminder, by the respective due dates of March 15 and June 15. A taxpayer who does so can be certain that he or she will not face any interest or penalty charges, even if the amount paid turns out to be less than the taxes actually payable for the 2012 tax year. (If the instalments paid turn out to be more than the taxpayer’s net tax liability for 2012, he or she will of course receive a refund on filing.)

Second, the taxpayer can make instalment payments based on the amount of tax which was owed for the 2011 tax year. Where a taxpayer’s income has not changed between 2011 and 2012 and his or her available deductions and credits remain the same, the likelihood is that total tax liability for 2012 will be slightly less than it was in 2011, owing to the indexation of tax brackets and personal tax credit amounts.

Third, the taxpayer can estimate the amount of tax which he or she will owe for 2012 and can pay instalments based on that estimate. Where a taxpayer’s income will decrease from 2011 to 2012 and there will consequently be a reduction in tax payable, this option may be worth considering.

A taxpayer who elects to follow the second or third options outlined above will not face any interest or penalty charges where there is no tax payable when the return for the 2012 tax year is filed in the spring of 2013. However, should instalments paid be late or insufficient, the CRA can impose interest charges, at rates which are higher than current commercial rates. (The rate charged for the first quarter of 2012—until March 31, 2012—is 5%.) As well, where interest charges are levied, such interest is compounded daily, meaning that on each successive day, interest is levied on the previous day’s interest. It’s also possible for the CRA to impose penalties, but this is done only where the amount of instalment interest charged for the year is more than $1,000.

Most Canadian taxpayers are understandably disinclined to pay their taxes any sooner than absolutely necessary. However, ignoring an Instalment Reminder is never in the taxpayer’s best interests. Those who don’t wish to have to involve themselves in the intricacies of tax calculations can simply pay the amounts specified in the reminder. The more technical-minded (or those who want to ensure that they are paying no more than absolutely required, and are willing to take the risk of having to pay interest on any shortfall) can avail themselves of the second or third options outlined above.

It’s that time of year again, when advertisements about the wisdom of contributing to your registered retirement savings plan (RRSP) fills the airwaves and Web sites. And, since the introduction of tax-free savings accounts (TFSAs) in 2009, February is now also the month in which Canadians wrestle with the question of whether to put any available funds into an RRSP before the contribution deadline of February 29, 2012, or whether to deposit those funds instead in a TFSA.

It’s important to be clear, at the outset, that it’s not an either/or choice. Taxpayers can (and probably should) utilize both the RRSP and TFSA options in planning their financial affairs. Realistically, however, for most taxpayers the limitation is one of resources and cash flow, and it’s often not possible to fund contributions to both an RRSP and a TFSA in the same year, let alone in the same month. That said, what are the considerations which apply in determining which savings/investment vehicle is preferable for 2012?

There are some similarities between TFSAs and RRSPs. Both allow savings to grow and compound free of current tax, and for both, contributions not made in a year can be carried forward and made in any subsequent year. As well, the types of investments which can be made with RRSP or TFSA contributions are, for all intents and purposes, the same, meaning that one’s choice of investment (i.e., guaranteed investment certificates (GICs), mutual funds, bonds, etc.) should be irrelevant to the choice of RRSP vs. TFSA. However, the differences between the two savings vehicles are at least as significant as their similarities.

Perhaps most important to taxpayers, contributions made to an RRSP are deductible from income, resulting in a lower tax bill for the year of contribution and, for many taxpayers, a tax refund. Contributions to a TFSA are, on the other hand, made with after-tax funds, meaning that tax will already have been paid on the income used to make that contribution. Many taxpayers, when presented with an option which will reduce current year taxes, find that the most attractive choice. However, over the long-term, the tax consequences of choosing an RRSP over a TFSA can erode that benefit. When funds contributed (along with investment income earned on those funds) are withdrawn from a TFSA or an RRSP, the tax consequences are very different. Funds withdrawn from an RRSP (or a registered retirement income fund (RRIF) into which the RRSP has been converted) are fully taxable, without exception, at whatever tax rate applies to the taxpayer at the time of withdrawal. TFSA funds (including accumulated investment income) are withdrawn from the plan free of tax, regardless of when the withdrawal is made or the purpose to which the funds are put. And for taxpayers who are receiving Old Age Security benefits (or any other means-tested benefits) from the federal government, it is important to note that RRSP or RRIF funds withdrawn will be included in income for the purpose of determining eligibility for such benefits, while TFSA funds will not. Finally, while RRSP contributions for 2011 must be made by February 29, 2012, there is no similar deadline for TFSA contributions—they can be made at any time during the calendar year. Finally, when funds are withdrawn from a TFSA, the plan holder can “top up” the TFSA in any subsequent year by the amount of that withdrawal. Funds withdrawn from an RRSP cannot be re-contributed, unless the withdrawal was made as part of government-sanctioned withdrawal plans, like the Home Buyers’ Plan or the Lifelong Learning Plan.

The minority of working taxpayers who are members of registered pension plans will likely find the TFSA option particularly attractive. The maximum amount which can be contributed to an RRSP for the 2011 tax year is calculated as 18% of earned income for 2010, to a maximum contribution of $22,450. However, that maximum contribution is reduced, for members of RPPs, by the amount of benefits accrued during the year under the pension plan. Where the RPP is a particularly generous one, RRSP contribution room may be minimal, and a TFSA contribution the logical alternative.

In a similar way, for taxpayers over the age of 71, the RRSP v. TFSA question is simply irrelevant. Taxpayers over that age are not eligible to make contributions to an RRSP, making TFSAs the only tax-free savings vehicle to which they can make contributions. The benefit is greatest for older taxpayers whose required RRIF withdrawals are greater than their current needs. While such RRIF withdrawals must be included in income and taxed in the year of withdrawal, transferring the funds to a TFSA will allow them to continue compounding free of tax and no additional tax will be payable when and if the funds are withdrawn. And, unlike RRIF or RRSP withdrawals, monies withdrawn from a TFSA will not affect the planholder’s eligibility for Old Age Security benefits or for the federal age credit.

For younger taxpayers, where the savings goal is short-term (e.g., a down payment on a home or paying for next year’s vacation), the TFSA is clearly the better choice. While choosing to save through an RRSP will provide a deduction on that year’s return and probably a tax refund, tax will still have to be paid when the funds are withdrawn from the RRSP a year or two later. And, more significantly from a long-term point of view, using an RRSP in this way will eventually erode one’s ability to save for retirement, as RRSP contributions which are withdrawn from the plan cannot be replaced. While the amounts involved may seem small, the loss of compounding on even a small amount over 25 or 30 years can make a significant dent in one’s ability to save for retirement.

Taxpayers who are expecting their income to rise significantly within a few years (e.g., students in post-secondary or professional education or training programs) can save some tax by contributing to a TFSA while they are in school and their income (and therefore their tax rate) is low, and then withdrawing the funds tax-free once they’re working, when their tax rate will be higher. At that time, the withdrawn funds can be used to make an RRSP contribution, which will be deducted against income which would be taxed at the much higher rate, generating a tax savings. And, if a need for the funds should arise in the meantime, a tax-free TFSA withdrawal can always be made.

Financial planners and tax advisers are accustomed to being asked by clients at this time of year whether it makes more sense to pay down the mortgage (or other debt) or to contribute to an RRSP. That question has become more complicated now that the TFSA option has been added to the mix. There is, however, a solution which allows you to do both. Assuming a marginal tax rate of 45%, an RRSP contribution of $10,000 will generate a tax refund of $4,500. Contribute that $10,000 (or as much as you can) to your RRSP and, when the resulting tax refund lands in your bank account, move it to a TFSA or use it to pay down the mortgage or other debt, or split it between the two.

The Canada Revenue Agency has dedicated sections of its Web site to addressing the need of taxpayers for information about TFSAs and RRSPs, and those sections can be found at http://www.cra-arc.gc.ca/tx/tfsa-celi/menu-eng.html and http://www.cra-arc.gc.ca/tx/ndvdls/tpcs/rrsp-reer/menu-eng.html, respectively.

It’s almost impossible not to have heard that the amount of debt carried by Canadian households is at an all-time high—reaching, on average, just over 150% of household income. Carrying so much debt can be relatively painless when interest rates are at historic lows, but it’s clear that rates cannot and will not remain at such levels indefinitely.

Whether it’s because of the warnings issued by financial professionals and government officials, or just the sight of ever-increasing balances on the monthly credit card or line of credit statements, it seems that Canadians are starting to recognize that their debt loads have to be reduced. And—right on cue—a number of debt reduction companies have begun advertising their services, promising to do just that.

Typically, debt reduction companies promise to work or negotiate with an individual’s creditors in order to have the amount of outstanding debt reduced—a service for which the debtor will of course pay a fee. The claims made by some such companies can seem like a lifeline to debt-burdened families. For those dealing with calls from irate creditors and struggling to make minimum monthly payments on outstanding debts, the prospect of having those debts reduced by up to 70% is very compelling. When a promise to restore a good credit rating by removing past credit mistakes from the debtor’s credit history is added to the sales pitch, it can seem almost too good to be true. And that, in fact, is the title of a recent consumer alert issued by the Financial Consumer Agency of Canada (FCAC): “Debt Reduction Companies: Beware of “Too Good to be True” Offers. That alert is available on the Agency’s Web site at http://www.fcac-acfc.gc.ca/eng/resources/consumerAlerts/alerts_posting-eng.asp?postingId=393.

The alert issued by the FCAC examines some of the claims made by many debt reduction companies, and compares these claims to the reality of the situation. The first unrealistic claim is often the one made about the percentage by which an individual’s debt can be reduced. The FCAC notes that no creditor is required to negotiate with or speak to a debt reduction company, even if the debtor has paid a fee to have such a company negotiate on its behalf. And, even if the creditor is willing to deal with the debt reduction company, it is in no way obliged to reduce debt by any amount. In other words, it’s perfectly possible for the debtor to pay a fee but get nothing for it.

Another claim sometimes made by debt reduction companies is that they will protect the debtor’s credit rating or even “clean up” that rating by having information on past defaults or late payments eliminated. The reality is that, unless the information contained in a person’s credit rating is demonstrably inaccurate, there is no way to have it removed from the credit report. Listings of past transactions, like late payments or defaults, do eventually disappear from a credit report, but that happens after a specific period of time has elapsed, not because the removal of such information is requested or demanded by a third party. The FCAC alert also reviews claims made that working with a debt reduction agency won’t have any negative effect on the individual’s credit rating or score. It warns that some such companies delay making payments to creditors for a few months in the hope of getting better results from negotiations to reduce the debt amount and that, where that happens, those late payments are likely to be reported to the credit reporting agencies, further damaging the individual’s credit rating. In some cases, debt reduction companies encourage debtors to stop all direct contact with creditors, or even to sign a power of attorney, giving the company authority to make agreements by which the debtor will be bound, even if he or she had no knowledge of them at the time.

Perhaps the most egregious claim made by debt reduction companies is the strong impression given that they are approved by the Canadian government or even that they are operating as part of a federal government program. Neither is true. Neither the federal nor the provincial or territorial governments operate debt reduction companies, and there are no government sponsored programs offering this type of debt reduction. While it is the case a debt reduction company will usually need to be registered and/or licensed by its provincial or territorial government in order to operate as a business, that is simply an administrative requirement which applies to all companies operating in a particular province or territory. Licensing or registration does not in any way mean that the provincial or federal government has approved of or endorsed the company or its way of doing business, and any claims to the contrary are simply false.

Sometimes, debtors avail themselves of the services of debt reduction companies because they are under the incorrect impression that there is no other choice open to them to deal with their debts. There are, in fact, several options. Where a debtor intends to and is able to discharge existing debts, he or she could obtain a debt consolidation loan from a financial institution. The rate of interest charged on such a loan will almost certainly be lower than that being levied on outstanding credit card or payday loan company debts, and the debtor will be able to make a single payment instead of juggling the demands of multiple creditors. Where it’s not possible to obtain such a loan, or the debtor doesn’t feel able to manage the debt repayment process alone, the best course of action is to obtain the services of a reputable credit counseling agency, which can set up a debt management program for the debtor. As part of that program, the agency will contact the individual’s creditors to arrange a manageable payment plan which might include a reduction in interest rates charged. Once a program is in place, the individual makes payments to the credit counseling agency which, in turn, forwards payments to the individual’s creditors as agreed. As well, credit counseling agencies work with clients to help with budgeting and financial management skills, with the goal of avoiding a recurrence of the individual’s financial problems. Reputable credit counseling agencies exist in both the private and the not-for-profit sectors, and information on the latter can be found on the Credit Counselling Canada Web site at http://www.creditcounsellingcanada.ca/Home.aspx.

In many ways, getting out of debt has a lot in common with that perennial New Year’s resolution of many Canadians—losing some weight and getting in shape. With both, it’s human nature to want to believe that there is an easy, painless way of accomplishing the goal without a need to change existing habits, and so it’s easy to fall for persuasive sales pitches that claim to have a quick fix for the problem. In both cases, however, the reality is the opposite—results can only be obtained through some effort, but where that effort is made and existing habits altered, successful long-term results are possible.