hey guys it's Adrian here the Canadian
in a Tshirt and today I'll be breaking down exactly how taxes work in Canada
I'll go over the basics of tax brackets and I'll compare taxes for personal
income business income and investment income I'll also go over some ways to
reduce your taxes legally such as deductions credits and registered
accounts like the TFSA and RRSP let's start with the basics in Canada you have to
pay two forms of income taxes federal and provincial taxes federal tax is
common for all Canadians but provincial tax differs depending on which province
you live in if you make $50,000 a year in Ontario you'll pay the exact same
federal tax as someone who makes $50,000 a year in Alberta but your provincial
tax rates will differ and so your total income tax will differ for both federal
and provincial taxes we have a progressive tax system that means that
as your income grows the tax rate that you pay on this new income grows higher
as well this is done using tax brackets you can think of tax brackets as buckets
of income if your income falls into a particular bucket you will pay the same
tax rate or percentage as any income in that tax bracket let's look at the
second lowest federal tax bracket for income between $47,000 and
$95,000 If your taxable income falls in this range you're in
this bucket and so you'll pay the same 20.5% of federal taxes for each additional dollar of income if you make
$50,000 or $90,000 you're still in the same bucket and so every
extra dollar you earn will be taxed at 20.5%. This 20.5% is your marginal tax rate marginal tax rate and this is the most
important number that we care about if our income gets bumped up to $100,000
we don't fit in this bucket any more and so we jump up to a
higher tax bracket now we're in the tax bracket of incomes between $95,000
and $147,000 and our marginal tax rate has
increased to 26% this is a very important point we don't pay 26% of our
total income in taxes we just pay 26% on the amount in this bucket in
this case that's only $5000 the amount above the $95,000
limit for the previous tax bracket you are always better off
earning a higher income even if you get bumped up to a higher tax bracket sure
you'll be paying more money in taxes on this new income but your
total net income will still increase and that means more money in your wallet
this is a big source of confusion so let's highlight this with an example
we're only going to look at the federal tax brackets but the provincial tax
brackets work the exact same way just with different numbers these are the
federal tax brackets for 2019 so you'll be using these numbers when you file
your taxes in April of 2020 let's say your income is $90,000 a year so we
start by completely filling up the first tax bracket of $47,630 the tax rate for this bracket is 15% so
we'll be paying $7,145 in taxes
on our first $47,000 of income the remainder of our
income goes into the second tax bracket but we don't quite fill it up since our
income is less than the $95,000 limit we have $90,000
minus $47,630 giving us $42,370 the tax rate for the second bracket is 20.5% so we'll be paying $8,686 on our remaining $42,000 this gives us a total
federal tax amount of $15,831 and
a net income of $74,169 this is what we
keep if we divide our tax paid by our income of $90,000 we get an
average tax rate of 17.6% the average tax rate isn't
really an important number it just gives you a sense of how much of your total
income was lost in taxes the really important number is your marginal tax
rate which is the tax rate of your current tax bracket in this case our
marginal tax rate is 20.5% meaning that for every extra
dollar we earn we lose 20.5 cents in taxes to the Canadian
government until we max out this tax bracket and then our marginal tax rate
will jump up let's say we earn an extra $10,000 and so our income
is now a $100,000 as before we start by completely filling up
the first tax bracket so we pay the same $7,145 in taxes for our first $47,000 of
income but now we completely fill up the second
tax bracket as well this tax bracket is filled with $47,629 which is taxed at 20.5% so
we'll be paying $9,764 in this
bracket but we still have more income left over we've handled our first two
tax brackets that's $95,259 but we still have $4,741 remaining
so this money goes into the third tax bracket which will be taxed at a rate of
26% so we will pay $1,233 in this tax bracket this gives us a total federal tax amount of
$18,142 and a net income of $81,858 and an average tax rate of
18.1% so even though we were bumped into a higher tax bracket
our total net income still increased however we did lose a larger percentage
of our income in taxes our salary increased by $10,000 but
our net income only increased by $7,700 you can
see that with just a 10k increase in salary our marginal tax rate has jumped
up to 26% this means that for every additional dollar I earn I
will lose 26 cents to the federal government and that's just
federal taxes if you add in provincial taxes your marginal tax rate will be
between 36% and 45% 45% depending on your province
the tax brackets for each province don't line up exactly with the federal tax
brackets so it can be pretty tricky to calculate your provincial and federal
taxes by hand the most important number we care about is our marginal tax rate
including both federal and provincial taxes the easiest way to find this
marginal tax rate is to use an online tax calculator the one that I like is
the EY tax calculator that you can see here and I'll include a link below so
you enter your income here let's say a hundred thousand dollars and we scroll
down to the province we live in let's say we live in a province with a heavy
tax rate like Quebec we see here the total taxes will pay the net income the
average tax rate and the marginal tax rate the total tax amount here includes
the federal and provincial tax and in an important point is that this calculator
includes the basic personal tax credit which I'll talk about later in this
this tax credit reduces everybody's taxable income in the calculation so it
lowers everybody's federal tax amount I didn't include this tax credit in our
earlier calculations to make it simpler but it is important so use this online
tax calculator when you're doing your calculations to get the most accurate
amounts another great thing about this tax calculator is that it gives you the
marginal tax rate on regular income but it also provides you the marginal tax
rate on investment income through capital gains and through dividends and
you can see that investment income is taxed significantly lower than regular
income which is why investing is such a powerful tool to become wealthy I'll be
breaking down exactly how investments are taxed in Canada in an upcoming video
so stay tuned for that so if you live in Quebec and you have a high income of $100,000 the government will take 45 cents out of every
additional dollar you earn that's why it's important not to rely solely on
your full-time job for income full-time employment is taxed heavier than any
other kind of income in Canada but unfortunately the majority of Canadians
rely 100% on their full-time job if your salary is a
hundred thousand dollars and you get a ten thousand dollar salary increase I
know it's really exciting but as soon as you get that first paycheck you'll see
that the government is taking almost half of that salary increase away in
taxes business income and investment income is taxed far less than full-time
employment income so instead of trying to get that $10,000 promotion and losing
about half that money in taxes you could have made a side business earning you
ten thousand dollars of business income and you would only be paying around
30% in taxes or even less depending on your business expenses you
might even be able to avoid paying taxes entirely the way a business like Amazon
does plus if you hadn't invested your money and your investments earned you
ten thousand dollars in income you would only be taxed around 25%
of this investment income through capital gains and dividends and you can
avoid paying taxes entirely on this investment income by using a tax
sheltered account like a TFSA or an RRSP remember in my video on the four steps
to become wealthy I emphasize that it's not about how much money you make it's
about how much money you keep too many smart people out there are focused
solely on getting that high paying job they put all their time and effort into
becoming a doctor a lawyer an engineer and yes they have huge salaries over $100,000 but they're losing almost half
of their paycheck in taxes when instead they could have opened a side business
or focused on investment income you don't need a huge salary to become
wealthy you just need to be smart about money and a big part of that is reducing
your taxes legally of course business income and investment income are already
more tax efficient and there are lots of ways to further reduce your taxes on
these income streams but with full-time employment income there isn't a whole
lot you can do you'll be stuck paying that high marginal tax rate the only
thing you can do is reduce your full-time job's taxable income through
tax credits and tax deductions a tax credit reduces the tax amount that you
owe usually by a fixed amount whereas a tax deduction reduces your taxable
income and so it reduces the tax amount you owe based on your marginal tax rate
tax credits usually benefit everyone equally regardless of their income as
long as they're eligible whereas a tax deduction offers more benefit for higher
incomes tax credits can be either refundable or non-refundable a
non-refundable tax credit can reduce your tax amount to zero but it will stop
there a refundable tax credit can reduce your tax amount to zero and
whatever money is left in the credit will be given to you in cash so if you
owed $1,000 in taxes and you had a non-refundable tax credit of 1500 your
tax owing would be reduced to zero but you lose the benefit of the remaining
five hundred dollars of tax credits so you won't have to pay any taxes but you
won't be getting a check from the government if you had a refundable tax
credit of $1,500 your tax would be reduced to zero and the remaining five
hundred dollars in this tax credit would be paid out to you in cash a lot of tax
credits are only eligible for low income earners and students but there are a lot
of tax credits which are available for everyone like the personal tax credit I
mentioned earlier some other tax credits include tuition credits donations
medical expenses interest on student loans the gst/hst tax credits and the
first-time homebuyer tax credits a tax deduction reduces your taxable income
and so the tax savings you get depends on your marginal tax rate the higher
income you have the higher your marginal tax rate and so the more you'll save in
taxes by using tax deductions if you earn forty thousand dollars a year in
Ontario your marginal tax rate is 20.05% if
you have a $5,000 tax reduction saying you contributed $5,000 to your RRSP you
can reduce your taxable income by $5,000 you won't be taxed on this $5,000 amount
and so you'll save 20.05% of this saving you $1,025 if you
earn $85,000 a year in Ontario your marginal tax rate is higher
at 31.48% if you have a five thousand dollar
deduction you'll save 31.48% of this $5,000 amount and so you'll save $1,574 that's $500 $500 more than you saved at a
lower income for the same five thousand dollar deduction this is why a lot of
people hold off on claiming deductions like their RRSP contributions until they
reach a higher salary the higher your income the more savings your deduction
provides the most common deduction available to all Canadians is the RRSP
this is one of the most important investment vehicles to generate wealth
and I'll be making an entire video on RRSPs very soon but at a high level an
RRSP is tax-deferred account meant to help Canadians build their retirement
fund all of your investments inside an RRSP grow tax-free just like a TFSA so
it's incredibly useful to hold dividend stocks REITs and bonds in your RRSP
especially US and foreign equities the second benefit is that an RRSP defers
your taxes until the day when you withdraw the money out of the RRSP this
is usually when you retire when your income is very low and you'll be paying
far less in taxes basically an RRSP is a deal we make with the government you're
saying I don't want to pay a large tax amount now I'll delay these taxes by
thirty years and I'll pay a much smaller tax amount when I retire RRSPs are the
most common and powerful deductions that are available for all Canadians but some
other deductions include employer pension plan contributions childcare
expenses disability expenses legal fees and moving expenses if your job required
you to relocate remember how I said that business income is taxed more favorably
than full-time employment income that's because as a business you can make way
more deductions than a regular individual can most operating business
expenses can be deducted from your taxable income that basically means
anytime you need to spend money in order to run your business you can claim it as
a business expense and deduct it from your taxable income so you'll pay way
less in taxes I'll be making a whole series of videos
on starting a business and how to claim business expenses but some of the common
expenses that I have claimed in my side businesses include fuel costs rent
mortgage interest car insurance legal fees phone bill and parking you'll
notice that a lot of these expenses are things that everybody spends money on
like the phone bill or gasoline the sad part is even though everybody has these
expenses necessary to live and perform their full-time job these expenses don't
offer any benefit at all if your only income stream is your full-time job all
of these expenses are just money down the drain for you but if you have a
side business you can claim that all these expenses
are necessary for your business to operate and so you'll be able to save
thousands of dollars in taxes every year let's imagine my business income is
$100,000 a year normally I would be paying around $25,000 in taxes as a
full-time employee but if my annual business expenses are $30,000 I can
deduct this from my taxable income and so I'll be taxed as if I only made
$70,000 a year even though I actually made $100,000 a year so the taxes that I
actually pay will only be about 14,000 that's about half the amount of tax I
would be paying for the same income in a full-time job there are tons of benefits
of owning a side business not just taxes and I'll be covering everything you need
to know about running a side business in my upcoming videos
so stay tuned for that so there you have it that's how taxes work in Canada
increasing your income is always a good thing even if it bumps you up to a
higher tax bracket but don't focus all of your effort on full-time income
income from a side business and investments are taxed far more favorably
and don't forget to take advantage of tax deductions and tax credits I'll be
making a whole series of videos on Canadian taxes including how investments
are taxed through dividends and capital gains and how to use a TFSA
an RRSP and an RESP so stay tuned for those videos thanks for watching guys
and be sure to LIKE comment and subscribe if you found this video
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every week be sure to tune in to my next video where I'll be breaking down my
favorite Canadian ETFs to invest in for dividends thanks everyone and I'll see
you guys on the next episode of The Canadian in a T-shirt bye guys
