Quote:
Originally Posted by RyanC
Thats exactly what I was looking for! Whats wrong with saving tax credits for when I graduate? And whats a tax credit?
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A tax credit is something that reduces the amount of income you owe tax on. There are two types:
Refundable tax credits and Non-refundable tax credits. Refundable tax credits you receive even if you paid no income tax (for example the Working Income Tax Benefit, look it up). Non-refundable tax credits just allow you to decrease the amount of income tax you owe, but you're really just getting the money back that you pre-paid to the government through deductions on your paycheck.
As an example, in 2011 if you made $50,000 but had $40,000 in non-refundable tax credits (say from going to University) then your net taxable income would only be $10,000. Everyone in Canada gets a base $10,000 tax credit (called the basic personal amount) so in the above case you would have a net taxable income of $0 and thus owe $0 in income tax. Because income taxes are deducted off your paycheck automatically, you'll end up getting a refund of all of that income tax you prepaid throughout 2011.
I'll do a quick calculation to show why transferring credits to your parents may be more beneficial than keeping them for yourself.
Bob is going to University and has only one parent (for simplicity) who had a gross income of $100,000 in 2010. Bob will graduate at the end of 2011 and has a job lined up that will pay him $50,000 per year. Bob has $10,000 of tuition credits for 2010.
Case A: Bob keeps the tuition credit and applies it towards his future earnings.
At the end of 2011, Bob uses the tuition credit and so his net taxable income is $30,000 (remember the 10k basic exemption). Thus for the tuition credit he receives a refund of $10,000 *15% for federal income tax and $10,000*5.05% for provincial income tax, yielding a total refund of $2005.
Case B: Bob transfers $5,000 of tuition credits to his parent in 2010 (the max amount allowed) and keeps the other $5000 which he applies towards his income in 2011:
At the end of 2011 Bob receives a refund of $5000*15% for federal income tax and $5,000*5.05% for a refund of $1002.
In 2010 Bob's parent reduces their net taxable income from $90,000 to $85,000. Due to the tuition credit transfer, Bob's parent receives a refund of: $5000*26% + $5000*11.16% = $1858.
So combined Bob and their parent received $2860 in refunds, which is 40% more than if Bob had just used the credits himself.
The difference occurs because the marginal tax rate increases with higher incomes. I've selected numbers that make the difference the most apparent. For case in between the difference won't be as large.
