Differences in Non-Refundable Tax Credits and Tax Deductions
This is a pretty common question asked during tax season. What exactly is the difference between a non-refundable tax credit and a tax deduction?
Tax Deduction
A tax deduction reduces your income for the year which can potentially mean that you've over paid on your taxes. Come tax return season, you'll get a refund on your over paid amount.
A common tax deduction for Canadians is an RRSP contribution. An accurate way to calculate your tax return based on your contribution is through a tax calculator available online. However, if you want a quick (and approximate) way to calculate the tax return based on a tax deduction, simply multiply the tax deductible amount by your marginal rate.
If you are curious, you can check out your marginal rate here.
If you own a business, a tax deduction is the same idea but it works a little differently. As an employee, you make money, get taxed, then the rest goes to your bank account. As a business, you make money, subtract your tax deductions, THEN pay taxes on the net amount.
This is a little off topic, but businesses have BIG tax advantages over employees as they have numerous tax deductible expenses where employees have few.
A side tip: If you make regular RRSP contributions, get your employer to reduce your bi-weekly tax payments. Remember that if you're getting a big tax refund at the end of the year, the money was basically an interest free loan to the government.
Non-Refundable Tax Credits
Instead of reducing your taxable income, non refundable tax credits reduce your taxes owing. You will not get extra money back if you have more tax credits than taxes owing.
Tax credits give you an amount equal to: amount claimed x lowest federal rate (15% for 2008). Where it gets confusing is that provinces will match the federal rate with their own lowest marginal rate on some tax credits (ie. the donation tax credit). Other credits, like the transit tax credit, is a federal program only.
For example, say you spent $1000 in a year on public transit. If the public transit is eligible for the tax credit, you would get back $1000 x 15% = $150.
Final Thoughts
Which is better a tax credit or a tax deduction? If you are anywhere higher than the lowest tax bracket, you'll get better benefit with a tax deduction. But then again, we don't get to choose whether a tax write off is a tax credit or deduction.
Note that I'm not a qualified tax advisor, so please do your own due diligence.
photo credit: blmurch
24 Comments, Comment or Ping
1. Michael James
Related to your tax tip, one year I got my employer to reduce my payroll income taxes because I had made an RRSP contribution. The payroll people looked at me like I had two heads when I first mentioned it. I had to investigate myself until I found the right form. I think it was a T1213. Your readers might benefit from the following link to this form: http://www.cra-arc.gc.ca/E/pbg/tf/t1213/README.html
When I brought my filled out form to the payroll people, they processed it like it was something they did every day.
Mar 27th, 2008 @ 12:05 pm
2. FrugalTrader
Great tip Michael. I had the same experience with the HR crowd here also.
Mar 27th, 2008 @ 1:18 pm
3. Big Cajun Man
Indeed, it’s important if you are married to ensure that your employer makes those deductions as well.
My wife works sporadically, so some years I get the full benefit of her not working, and then some others I don’t, but when she is not working, I do make sure I fill in the forms (for that same company) are filled in.
–C8j
Mar 27th, 2008 @ 9:55 pm
4. WhereDoesAllMyMoneyGo.com
If you are starting with a new employer I believe you can get away with just a TD1 form, but if you have started on payroll, you will indeed have to fill out the T1213 – although my understanding was that it gets sent to the local tax office who then instructs your payroll department to withhold less.
Mar 27th, 2008 @ 10:39 pm
5. Mr. T
I am enrolled in a group RRSP with my employer. The employer matches 100% up to 6% of my Salary.
Can I claim the amount that my employer contributed for RRSP Deduction? Or can I only claim the amount that I contributed?
Thanks
Mar 28th, 2008 @ 12:49 pm
6. PB
Michael James: The T1213 form asks to give “details” or a copy of the “payment contract” when claiming a contribution to a self-directed RRSP. How much detail, paperwork, statements, etc. did you have to provide to satisfy the requirement?
I’m filling out the form myself, but am stuck on this step.
Mar 28th, 2008 @ 3:47 pm
7. Michael James
PB:
I had an RRSP contribution tax receipt the time I used the T1213 form. My employer’s HR group said that was good enough. I would think that your best bet is to ask your HR group or ask whoever at the government this form will be sent to. My HR group handled the sending to the government for me.
Mar 28th, 2008 @ 4:11 pm
8. FrugalTrader
Mr. T, your RRSP company will send you a tax receipt at the end of the year. Whatever is on that receipt is what you can claim.
Hope that helps.
Mar 28th, 2008 @ 4:15 pm
9. PB
Michael James: I was trying to fill out this form to notify the CRA that I PLAN to make a certain amount of RRSP contribution in the future. I have made one contribution already, however, I contribute to my RRSP manually with bill payments every month (I use Questrade, and I dont think they support a pre-authorized deposit plan).
Since I don’t have a formal “payment contract”, whats the chance that I will be granted my letter of authority? From the CRA’s point of view, they have to “trust” that I will make all the RRSP contributions I am claiming.
Does anyone else have any experience with this?
The only real documentation I could provide is my written promise :)
Mar 28th, 2008 @ 5:16 pm
10. Mr. T
Thanks FT
Mar 29th, 2008 @ 10:32 am
11. Gates VP
Hey FT, my personal “mnemonic” for this one is “off the top” (tax deduction) and “off the bottom” (tax credit).
The valuable deductions (like RRSPs) come “off the top” and the less valuable ones (like Transit pass savings) come “off the bottom”. Might now work for everybody, but it’s enough to help my wife understand.
May 11th, 2008 @ 3:14 am
14. Kevin
Just a question and I’m not too sure if it relates to this post but here it goes.
I have a few rental properties that bring in roughly $10,000 per month with mortgage payments and other deductions of roughly $7000.00 per month which makes my net income $3000.00 per month.
Am I able to pay my expenses including property management, utilities and mortgage payments with a line of credit and further write off the interest for carrying these charges until an undisclosed date, potentially building them into the mortgage of the property by re-financing and gradually pay it off with the future rental income.
My reasoning for this question is that I would like to take the full $10,000 monthly and apply it to my personal residence where the interest is not tax deductable and pay it off as soon as possible. Once it is paid off I will then focus on paying off the monthly expenses related to my rental properties that acrued during this time by using the future rental income from these properties.
I know that I will be paying compounded interest on the deferred expenses and it will lower my future revenue, plus as I pay off the principle of this loan it will also be considered income, but this will benefit me both in lower capital gains tax because I am making less income based on more interest being paid and it will convert my bad debt into good debt.
I hope I explained this properly so that everyone reading this understands what I am saying and can potentially answer my question.
Based on the info I am giving I would also like to know that if this is possible for me to do, I am also assuming that my net monthly income during this time of defering my expenses will still be $3000.00 per month as I am able to deduct the expenses immediately this year even though I am deferring paying them until potentially next year.
Please get back to me and let me know if I am dreaming here.
thank you
Nov 23rd, 2008 @ 2:48 am
15. FrugalTrader
Kevin, from reading your comment, is your goal to pay down your principle residence mortgage faster? If so, you can perform what’s call the Cash Flow Damn, or cash damming. It’s basically where you use a line of credit to pay your rental expenses, while taking the extra income (since expenses are paid) to pay down your principle mortgage. I have an article on this tomorrow, stay tuned!
Nov 23rd, 2008 @ 7:15 am
16. Kevin
Thank you Frugal Trader, that is exactly what I would like to do. I will look on your site tomorrow to find the article. If possible please send me a message to let me know once it is written.
Take care
Nov 23rd, 2008 @ 7:10 pm
18. pardeep
Hi i am an international student i got married last year i.e my tax year. My wife worked in 2008. But earned was than $3600. My earning is more than $12000 for 2008.how much i can claim from my wife’s income for federal and provinical. .
Mar 12th, 2009 @ 2:53 pm
19. Ray
at your tax levels you probably wont be owing any taxes, you are about $3000 in the lowest tax bracket, she wont have any taxes owing for her income.
Mar 12th, 2009 @ 3:58 pm
22. unknown
” If you are anywhere higher than the lowest tax bracket, you’ll get better benefit with a tax deduction. ”
I think it should be if your marginal tax rate is positive, people should choose tax credit over tax deduction. Tax deduction is only dollar for dollar reduction in the taxble income, while tax credit is a dollar for dollar reduction in the tax payables.
Feb 5th, 2010 @ 5:11 am
23. Denis Silverman
If someone has no income for the current tax year and, therefore, cannot use a non-refundable tax credit such as the $10320.00 personal exemption, can such credits be carried forward and utilized in a later year when you might have a high income, or can they only be utilized for the current year?
Thank you.
Mar 8th, 2010 @ 6:40 pm
24. FrugalTrader
Denis, to my knowledge, basic personal amounts cannot be carried forward to future years.
Mar 8th, 2010 @ 8:17 pm
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