The prescribed loan rate will double to 2% on July 1.
A prescribed rate loan is an income-splitting strategy commonly used by individuals in a high marginal tax bracket to split investment income with family members in lower tax brackets. The most common applications are a prescribed rate loan to either a Spouse or a Family Trust. It works as follows: the high-income earner issues a loan to the lower-income spouse or Family Trust; that capital is invested and used to generate investment income, and the borrower makes annual interest payments on that loan to the lender. Under this arrangement, the investment income is taxed in the hands of a spouse or trust beneficiaries rather than in the hands of the high-income earner. And the individual lending the money only needs to include the annual loan interest as part of their taxable income. However, it is important to note that interest on the loan must be paid annually by January 30 and that even a single late or missed payment can permanently taint the strategy.
Why can’t one just give a spouse or children the funds to invest?
The reason is attribution, a rule that prevents income-splitting of income-producing assets to low-income family members by attributing the tax back to the high-income earner.
The interest rate for a prescribed rate loan is set for the entire life of the loan, and the current prescribed rate for new loans is 1%. The CRA determines or ‘prescribes’ the interest rate on a quarterly basis. Since rising rates might cause the interest rate to go up, where this strategy is suitable, we generally recommend putting it in place before June 30, 2022, as we expect the prescribed rate might go up (which slightly reduces the financial benefit of doing so).
Ethan Astaneh, CFP FEA
Wealth Advisor | Client Relationship Manager
This material contains the current opinions of the author and such opinions are subject to change without notice. This material is distributed for informational purposes only. Forecasts, estimates, and certain information contained herein are based upon proprietary research and should not be considered as investment advice or a recommendation of any particular security, strategy or investment product. Nicola Wealth is registered as a Portfolio Manager, Exempt Market Dealer and Investment Fund Manager with the required securities commissions.