Disclaimer: Please note this article is not financial advice. The purpose of our blog is purely educational, so please consult a professional accountant or financial advisor before making any financial decision.
Tax: a mandatory contribution levied by the government to support public works and benefits.
Most of the time, taxes can be an irritating subject because a portion of your earnings will be deducted from your payslip or financial statement. Tax is even more of a burden when you don't have a clue where it is being used.
Suppose your accountant or sales tax preparer is deducting taxes from your salary or profit. In that case, you are contributing to several government projects for the public—this includes better transportation, road construction, and improved healthcare facilities. This contribution also pays the salaries of individuals working in the government.
The amount of tax one pays is not the same for all. You have to understand income tax brackets to know how much money is legally subtracted from your earnings. So dig deeper into this article, and let us talk about the value of income tax brackets.
Are taxes really necessary? Here’s the down-low
Tax is a mandatory contribution imposed only by public authorities. In fact, it is a law that can be dated back to ancient times. If you still don't know how important taxes are, this article will give you a detailed explanation. Taxes are essentially utilized to promote the well-being of a nation, its government and all its subjects. Because of the tax you are paying, you enjoy public safety, national defense, health care, and free education.
Taxes are also spent to protect the environment and help a country implement fiscal and monetary policies essential for economic growth. Thus, the money you give to the government in the form of tax does many things.
Let’s get one thing out of the way—not everyone needs to pay tax. The tax you pay is determined by your ability to pay. So if you are unemployed or your income is below the taxable amount, you may not pay any tax. However, once you reach an income that meets one of the brackets, own a house or business, you need to pay tax. Business owners pay taxes based on the income they’ve accumulated.
Taxation is also an effective way to redistribute wealth in society from individuals who have more to individuals who have less. Income tax brackets see to it that those who are earning more pay a higher tax than those who earn less.
Taxes are also applied on luxury items, cigarettes, liquors, and even gasoline. Governments around the globe have seen the need to increase taxes on unhealthy products to reduce consumption. Raising the taxes on gasoline, for example, is a prompt for people to drive less in an effort to protect the environment and lessen traffic.
Direct and indirect taxes are the two types that you usually pay. Taxes taken from your income and business profits are a perfect example of a direct tax collection. On the other hand, Indirect taxes like value-added taxes (VAT) are applied to goods and services. Scan your grocery or restaurant receipt, and you can see VAT added to your bill.
If all people in a specific country are willing to give according to what they earn, the government can build what is needed for the betterment of its citizens. If you allow yourself to get involved in nation-building and support others, you will get something positive out of it.
What is the history of Canadian taxation?
Before Canada became an independent country, England and France collected taxes which were custom duties. Following the confederation in 1867, the two layers of the government, federal and provincial, wanted to collect money for their own use. The federal government looked forward to creating buildings, roads, railways, harbors, and bridges, while the provincial government aimed for education, health, and welfare.
Canada joined World War I in 1914, and the government needed more money to continue its operation. And the solution for this need was to increase the taxes. At first, the federal government mandated that only the big corporations share a portion of their earnings as tax. Then, in 1917, the Canadian government needed more money and introduced the Income Tax War Act, wherein everyone who makes an income must give a portion of their earnings. The government said that it would be temporary.
The war ended in 1918, and the Canadian government still needed to cover the war-related expenses such as the nation's rehabilitation, veteran's pensions, and debt interest. By 1948, the income tax was no longer considered temporary. The Income Tax Act subsequently replaced the Income War Tax Act.
As you can observe, the government has the sole power to change the tax-related bills.
And how about modern-day taxation in Canada?
Canadians need to pay two kinds of taxes, and they are federal and provincial. Canada has a progressive or marginal tax system which means, as your income grows, your tax rate grows too. For this instance, tax brackets are vital to derive the tax you need to pay correctly.
As your income gets higher, you'll face more provincial and federal taxation of income-tested benefits such as GST credit, OAS, and family benefits like the Canada Child Benefit.
Canada Revenue Agency (CRA) has issued the following income tax brackets in Canada for 2021:
- 15% on $13,809 to $49,020
- 20.5% on $49,021 to $98,040
- 26% on $98,041 to $151,978
- 29% on $151,978 to $216,511
- 33% over $216,512
In addition to federal tax are provincial tax rates. Let's focus on the income tax brackets Ontario has:
- 5.05% on $45,142
- 9.15% on the next $45,143 to $90,287
- 11.16% on the next $90,288 up to $150,000
- 12.16% on the next $150,001 to $220,000
- 13.16 % over $220,000
Assuming that you are from Ontario and you'll earn $65,000 at the end of 2021—you might think that you will fall on the 20.5% bracket right away, making you owe the Canadian government a total of $13,325 on federal income tax only. However, that is not how it works because the marginal tax brackets are designed to lower your tax charges. It is a common misconception that you are part of only one tax bracket.
Here is the real deal: By consulting the federal tax bracket of 2021, your first taxable amount is $49,020 at 15%, and you have a tax of $7,353. You still have a remaining taxable amount of $15,980 ($65,000 - $49,020), which will be taxed at 20.5%, giving a tax value of $3,276. Therefore, you have a total of $10,629 in federal income tax.
To give you an easier view of how to get your federal tax, here is the formula:
|$13,809 to $49,020||Taxable Amount ✕ 0.15 = TAX|
|$49,021 to $216,512||Latest Taxable Amount = Net Income − First Taxable AmountTAX (2...) = Latest Taxable Amount ✕ RateTotal Accumulated Tax = TAX (1) + TAX (2) + ...|
Now, time to get your provincial tax. You are from Ontario, and $45,142 is eligible for 5.05% tax that is $2,280. You still have a remaining $19,858 ($65,0000 - $45,142), which is taxable for a rate of 9.15%, giving you $1,817. Therefore, you have a total of $4,097 in provincial tax.
For an easier view on how to get the Ontario tax, here is the formula:
|$45,142||Taxable Amount ✕ .0505 = TAX (1)|
|$45,143 to $220,000||Latest Taxable Amount = Net Income − First Taxable AmountTAX (2...) = Latest Taxable Amount ✕ RateTotal Accumulated Tax = TAX (1) + TAX (2) + ...|
Summing it all up, you have a total combined federal and provincial tax of $14,726.
Is there a way to reduce taxes?
There are ways to lower your taxes legally, and this is what we call tax deductions. This works by reducing your total or gross income to get to your taxable income. The tax code has a way of incentivizing, and you can possibly get tax breaks in the form of deductions and tax credits, depending on your financial situation. Remember that your gross income is your accumulated earnings from all sources before you make deductions. Determine your gross income first, and you can deduct all eligible deductions. Such legal deductions may include:
- Pension adjustments
- Pension contributions
- Child care deduction
- Support payment to the divorced partner
- Carrying or interest charges of investments
Let us have another example: If you earned $100,000 at the end of the year and paid for your insurance and other personal contributions with a grand total of $10,000, you can deduct the $10,000 from your total earnings. Thus, leaving you with a taxable net income of $90,000. All in all, you owe the government a total of $22,139 in tax.
Tax credits reduce tax payable while the tax deductions reduce taxable income. The tax credits have two types, which are refundable and non-refundable. When you have refundable tax credits, you will get an amount from the government because you overpaid your tax. Non-refundable credits can only turn your tax into zero. Tax credits can be either static or income-tested, meaning credits can go down as your income increases.
As of 2021, the basic federal personal amount is $13,808 under the lowest marginal tax rate of 15%, and it leaves you a total tax credit of $2,071.20. An important note you should remember about the basic personal amount is it gets smaller the moment your income exceeds $15,978. It is also the same with the provincial tax credits. Ontario has a provincial personal amount of $19,369 with a tax rate of 5.05%, leaving you a provincial tax credit of $978.13. Tax credits are deducted from your overall government taxes.
How are you going to determine whether you are eligible for a tax refund?
Tax filing happens every April 30 of each year. CRA doesn't like to wait and deduct taxes before they are paid. Usually, CRA takes taxes out of every paycheck, which is reflected in your payslip. You will see your gross income, and then you have a withholding amount which is the tax that you have pre-paid to CRA. Such withholding also includes Canada Pension Plan (CPP) and employment insurance (EI).
When you file your taxes at the end of the year, CRA will compare the withholding amounts against the tax you should pay. If your employer withheld more than the total tax payable, you are eligible for a tax refund. Conversely, you will have a tax owing in case your employer did not withhold enough from you. A refund works like an overpayment, and you still have change. It is like lending the government money without interest.
You also have to remind yourself to update your personal information using TD1 in case there are changes. Outdated information about you can lead to a tax refund or owing to the government more. The TD1 helps your employer estimate the withholding taxes they need to take out of your paycheck, which is a common issue with people with multiple jobs.
Take note, a refund is not a financial goal, and using RRSP to force a refund is not very substantial. You have to save for your retirement while paying your appropriate taxes.
You’ve learned so much about the income tax brackets. What now?
Taxes are vital to keeping the balance and safety in every nation. Canadian citizens enjoy the fruits of their taxes through education, public services, environmental conservation, and quality health care.
Income tax brackets were formulated to lower your tax so you can enjoy your earnings. Keep in mind as well that there are legal ways you can take to lessen the amount of tax you need to pay the Canadian government.
Now that you already know how to compute your annual taxes manually, you can still consult accounting bookkeeping services and tax services. They will help you lower your taxes legally, and you can have a good conversation with them with the knowledge you gain in this article.
If you are self-employed or the boss of your own business, a sales tax preparer is a good match. Do not be afraid or be half-hearted to pay your taxes and be a good taxpayer. It is proof of your sense of responsibility and commitment to your country and fellowmen.