How will you spend your tax return?

April 28, 2016

By Sheryl Smolkin

You have filed your income tax return and now all you are waiting for is to see your overpayment appear in your bank account. While paying too much taxes and getting it back at the end of the year really means you are giving the Canada Revenue Agency a no-interest loan, the fact is that particularly with interest rates so low, many of us look forward to a windfall every spring. 

Because my husband retired in June 2015, we are getting a nice chunk of money back and we are planning to spend it on a cruise to Australia and New Zealand for our 40^th anniversary this fall. But depending on your age and stage of life, there may be many better places to spend the money than taking an exotic vacation.

Here are some options for you to consider in no specific order: 

Pay off high interest debt
If you have credit card or other high interest consumer debt and can only afford to make minimum payments, double digit interest rates mean the amount you owe is growing instead of shrinking. Consider consolidating your debts a lower rate of interest and paying them down with your income tax return.

Seed your emergency account
Everyone knows somebody who has lost their job or had to stop work earlier than planned due to family illness. Most financial experts suggest you have at least three months’ salary in your emergency fund. This calculator from RBC can help you figure out how much you need. Your income tax return can help you seed or top up an emergency fund.

Pay down your student loan
Canada Student Loans are interest-free for six months after you graduate or leave school. You can choose between a fixed interest rate (where the rate doesn’t change for the duration of your loan) and a variable, or “floating,” interest rate (where it can fluctuate). For Canada Student Loans issued on or after August 1, 1995:

• The fixed interest rate is prime + 5%

• The floating interest rate is prime + 2.5%

The sooner you pay off your student loan, the sooner you can free up disposable income to save for other family priorities like a house or a car.

Pay down your mortgage
The longest running personal finance debate is whether you should use an income tax return or other windfall to pay down your mortgage or contribute to an RRSP or TFSA. Typically if you are paying a higher interest rate than you are earning in a savings vehicle, paying down your mortgage is more advantageous. Also, if at all possible, try to pay off your mortgage before you retire.

Contribute to a TFSA
In 2016 you can contribute $5,500 to a tax-free savings account. Contribution room from previous years can be carried forward. There is no tax deduction for contributions but your principle and any interest accumulates tax free and there is no tax on withdrawals. Also, if you take money out your TFSA contribution room is restored. Using your tax return to contribute to a TFSA allows you to accumulate money for retirement or other major purchases in the years prior to retirement. It is also a good place to park your emergency fund.

Contribute to an RRSP
Are you one of those people who scrambles to come up with a registered retirement savings plan contribution in February every year? By contributing your tax return to your RRSP you will get a head start on this year’s contribution and reach your retirement goals much sooner. 

Contribute to an RESP
Tuition fees alone for Canadian undergraduate programs are currently about $6,000/year and they will be much higher before your young children graduate from high school. College tuition is lower but by the time you add books, living expenses and transportation costs these programs also cost thousands of dollars a year. If you use your income tax return to contribute to a Registered Educational Savings Plan, the money will accumulate tax free and taxes will be paid by the student who will likely have to pay little or no taxes. Also, an annual contribution of up to $2,500 will attract a government grant of up to $500/year to a lifetime maximum of $7,200.

Give to charity
If you donate all or part of your tax refund to an approved charity, you will not only benefit others, but you will get a non-refundable tax credit. If it is the first time you have made a charitable donation you may be eligible for the first-time donor’s super credit  which supplements the value of the charitable donations tax credit by 25%. The FDSC applies to a gift of money made after March 20, 2013, up to a maximum of $1,000, in respect of only one taxation year from 2013 to 2017.

Upgrade your education
You want to upgrade your skills to put you in line for a promotion. You are bored with your current job and want to train part-time for another one. You’ve always wanted to fix your own car or learn a new language. You can use your income tax return to upgrade your education and you may also be entitled to tax credits for the tuition paid.

Invest in your health
Your dental plan does not cover the braces your child needs. You need a new pair of glasses that cost way more than the $150 every two years paid by your medical plan. You want buy training sessions at your gym to reach your fitness goals faster. Your income tax return can be used to invest in you or your family’s health and wellness.