How Tax Brackets Work

One of the most common questions we respond to is, “What tax bracket am I in?” Before we get to how tax brackets work, let’s discuss how the Canadian tax system for individuals works.

Canada’s Tax System Basics

In Canada, the more you make, the more income tax you pay. The federal and provincial governments have tax brackets that are not the same. For today’s article, we’ll look at Ontario for our examples.

Let’s start with the 2021 tax brackets:

Federal Tax Brackets

  1. 15% on income up to $49,020
  2. 20.5% on income from $49,021 to $98,040
  3. 26% on income from $98,041 to $151,978
  4. 29% on income from $151,979 to $216,511
  5. 33% on income above $216,511

Ontario Tax Brackets

  1. 5.05% on income up to $45,142
  2. 9.15% on income from $45,143 to $90,287
  3. 11.16% on income from $90,287 to $150,000
  4. 12.16% on income from $150,001 to $220,000
  5. 13.16% on income over $220,000

Total Income, Net Income and Taxable Income

Some things can be deducted from your Total Income to reduce it to your Net Income. These items can include:

  • RRSP Deductions
  • Child Care Expenses
  • Union or Professional Dues
  • Carry Charges for Investments
  • Certain other items

In most cases, the Net Income will be the same as Taxable Income. There are possibilities for your Taxable Income to be lower.  For example:

  • Armed Forces or Police Deduction
  • Security Options Deductions
  • Loss Carry-forwards
  • Capital Gains Deductions
  • Northern Residents Deductions

After adjusting for these, you have your Taxable Income.

Let’s look at a simplified example:

A taxpayer has a taxable income of $95,000. Let’s break down how their taxes are calculated.

  1. Provincial Taxes
    1. Income up to $45,142 is taxed at 5.05% for the provincial tax bracket resulting in $2,279.67 payable.
    2. Income over $45,142 but below $90,287 is taxable at 9.15%. This means that the next $45,145 is taxed at 9.15% resulting in taxes payable of $4,130.77.
    3. Income over $90,287 up to $95,000 is taxed at 11.16%.  After that, $4,713 multiplied by 11.16% gives $525.97 owing.
    4. Adding up these amounts shows that $6,936.41 is owed for provincial income tax.
  2. Federal Taxes
    1. Income up to $49,020 is taxed at 15% resulting in $7,353 owing.
    2. Income above $49,020 up to this taxpayer’s income of $95,000 is taxed at 20.5%. So the difference between the total income and the bottom of the tax bracket is used, $45,980. To figure your balance, $45,980 multiplied by 20.5% results in $9,425.90 owing.
    3. Total federal taxes owing is $16,778.90.
  3. Total Taxes Owing
    1. Provincial portion from (1) is $6,936.41
    2. Federal portion from (2) is $16,778.90
    3. Total taxes owing is $23,715.31, an effective tax rate of 24.96%.

Tax Credits

After calculating the total taxes payable, tax credits can reduce what the taxpayer owes further.

Federal Tax Credits

Some examples of Federal Tax Credits include:

  • Basic Personal Amount
  • Age Amount
  • Spouse or Common-law Partner Amount
  • Amount for an Eligible Dependant
  • Canada Caregiver Amount
  • Volunteer Firefighters’ Amount
  • Canada Employment Amount
  • Home Buyers Amount

Calculate these tax credits as a function of the lowest federal tax bracket (15%). This means that you only get a credit against what you owe for the lowest tax bracket.

Provincial Tax Credits

Some examples of Provincial Tax Credits include:

  • Basic Tax Credits
  • Disability Tax Credits
  • Interest on Student Loans
  • Tuition and Education Amounts
  • Medical Expenses
  • Donations and Gifts

Calculate these tax credits as a function of the lowest provincial tax bracket. This means that you only get a credit against what you owe for the lowest tax bracket.

Results of Tax Brackets

After accounting for the most basic of tax credits and assuming this taxpayer is single, this individual would owe $21,165.70.  This makes their effective tax rate 22.27%.

What Tax Bracket You Are In

It’s impossible to answer this question in a blog post. Everyone is different. Your tax bracket is based on your income. If you are unsure, it’s best to hire a tax accountant to maximize your tax savings.

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