Understanding the tax impact of more affordable care
Here’s the problem: your child-care expense deduction will decrease if you pay less to your child-care provider. As a result, your taxes payable will likely increase, depending on your income level. A reduced child-care expense deduction will also increase the net income on your tax return. This is the figure your refundable tax credits, like the Canada Child Benefit (CCB) are based on. These important monthly benefits, therefore, could shrink.
To understand this fully, take a look your tax return from last year. The child-care expense used as a deduction is found on line 21400 after being calculated on form T778. Net income is at line 23600. That important line is used for government “income testing” for a number of provisions on the return, including refundable tax credits like the Canada Child Benefit, the Canada Worker’s Benefit and the GST/HST Credit. It will also determine how much OAS (Old Age Security) seniors will get, or whether employment insurance (EI) benefits will be clawed back. Just as important, non-refundable tax credits, like the spousal amount, may be affected.
When your net income goes up because of your lower child-care expenses, these benefits are reduced, unfortunately.
Invest to offset a reduced net income
There is some good news for astute investors, howeve,. To keep your family’s net income low despite the reduction in your child-care expense deduction, make an RRSP (registered retirement savings plan) contribution. The resulting RRSP tax deduction reduces your net income and your taxable income and, in the process, works to increase income-tested refundable and non-refundable tax credits too! Check out how much RRSP room you have on your notice of assessment from the Canada Revenue Agency (CRA) to make the contribution.
The same effect occurs if you can claim a deduction for contributions made to the first home savings account (FHSA). An annual deduction of up to $8,000 may be claimable.
Maximize your child-care claim
The final way to shore up the tax benefits from your child-care expenses is to make sure you claim all of them and to your best tax advantage.
Child-care expenses are often missed entirely by parents. If this has happened to you, did you know you can go back and adjust prior filed returns to make that claim and receive the tax-credit benefits and tax refunds you missed? Especially if you are a first-time filer, be warned, however, that the claim for child care is complex and often audited. Be prepared to provide receipts to justify your claim.
It’s also important to know that the spouse with the lower income is the one that must claim child-care expenses, except in certain defined circumstances: when the lower earner is unable to care for the children due to a mental or physical infirmity, is in full time attendance at a qualifying school, or in hospital or incarcerated for at least two weeks, for example. Another exception is when there is a breakdown in the conjugal relationship for at least 90 days, but a reconciliation takes place within the first 60 days of the year. The usual $5,000, $8,000 or $11,000 maximum amounts claimable by the higher earner may be reduced, however, with a maximum weekly calculation.
