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 helpful
every thumbs up and comment really helps me build this channel and hit that Bell
icon to be notified of my new videos 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