If you're one of the estimated 8.8 million Canadian taxpayers who will get one this year, by now you've probably received your tax refund and might be wondering what to do with this little mid-year goodie from the Canada Revenue Agency (CRA).
According to the CRA, as of April 18 more than 13.1 million tax returns had been filed. CRA had issued almost $14 billion to the some 8.8 million tax filers who were eligible for a refund. The average refund amount is $1,585 and refunds are issued within anywhere from one week to one month, depending on how you filed your tax return -- by net file, efile or paper. Eighty-six per cent of Canadians now file their returns electronically.
One of the most common misconceptions about tax refunds is that they're a good thing. In fact, getting a refund means you paid too much tax during the year and essentially were lending the tax man your money.
"Many Canadians think of a tax refund as a bonus even though it's your money to begin with," says Cynthia Caskey, vice president, sales manager and portfolio manager with TD Wealth Private Investment Advice.
Getting a lump sum refund can be a temptation to splurge on luxuries that you might not otherwise consider. "It can be tempting to splurge on luxury items, but many Canadians need to balance paying debt, saving for a child's education and for retirement," says Caskey. "It's important to consider these needs when deciding how best to spend your refund."
A recent study by BMO Nesbitt Burns found that 37 per cent of Canadians intend to use their refunds to pay household bills, credit card balances, mortgages and other debt. Twenty per cent plan to save or invest it in a Registered Retirement Savings Plan (RRSP), Registered Education Savings Plan (RESP) or a Tax Free Savings Account (TFSA), 10 per cent plan to spend it on travel, leisure of luxury goods, and seven per cent plan to use it for home renovations.
"It's encouraging to see so many Canadians invest their tax refund money or use it to lower their debt load," says John Waters, vice president and head of tax and estate planning, Wealth Planning Group with BMO Nesbitt Burns. "While it may be tempting to spend the money on a trip of flat-screen TV, paying off debt or investing for the future will be more beneficial in the long-term."
Paying down high-interest debt like balances on your credit card should be a top priority. Consider making a lump sum payment, especially if the interest on the debt is not tax deductible.
You also can use your refund to create a savings plan.
"A contribution to a TFSA can be part of your retirement savings strategy, and interest earned and investment income is not taxed," says Caskey. "Because you can withdraw the funds at any time it is a great option for use as an emergency fund. A good rule of thumb is to have at least six months of living expenses set aside for contingencies."
Of course the best strategy is to structure your financial affairs so you don't pay any taxes, if possible.
Take a year-round approach to tax savings. Review your asset allocation to ensure your investments are allocated to maximize tax efficiency and consider making regular contributions throughout the year to your Retirement Savings Plan (RSP) instead of making one lump sum contribution to take advantage of compound interest.
Invest efficiently outside of your RSP and TFSA. Determine an appropriate asset mix and consider investment solutions based on their tax efficiency.
Working Canadians also should get to know the kind of pension plan their employers offer and keep up their savings in their plans. A lot of people may not be aware that they can make contributions to their RRSP and carry them forward to a time when they are making a higher salary and in a higher tax bracket, thereby getting a higher tax deduction. This strategy is particularly good for people early in their careers, the self-employed, women on maternity leave, and people who are going through some lean years.
"It's important to make tax-smart investment decisions appropriate to your circumstances," says Caskey. "You should carefully examine your 2012 return, income and investments and start planning now for the future. A little planning can go a long way, not just for next year but for years to come."
Talbot Boggs is a Toronto-based business communications professional who has worked with national news organizations, magazines and corporations in the finance, retail, manufacturing and other industrial sectors.
Copyright 2013 Talbot Boggs
