Taxes

We all want to pay the least taxes possible. With RRSP contributions, and taking courses, and donations I always get back several thousand dollars in income tax in the spring. Starting this year, I will have to re-pay my Home Buyers Plan, which will only be a few hundred dollars from my RRSPs deducted.

The question that I am asking is this: "Is it better to receive several thousand dollars at income tax time" or "Is it better to have your employer reduce the taxes withheld on each paycheque giving you more money every paycheque" or "Is a balance better (a slight drop is taxes and a smaller income tax cheque in March)". I will analyze the three options as best as possible.

Option 1: Receiving money at income tax time - Up until now I really liked this option. Getting an extra paycheque (or two) in March would always do wonders for my net worth spreadsheet and it was nice to put some savings and pay off some loans with that money. The problem is that this is not the most efficient way.

Option 2: Is it better to have your employer reduce the taxes - For ease of calculation, lets assume that I get back $2600 at income tax time. This averages out to $100 per paycheque that the government has taken from me. Mathematically, it makes much more sense (both for my cash flow and total net worth) to have my employer drop by taxes by $100 per paycheque and then get back no money in March. Remember that the government isn't paying you interest on the money it holds, so whether you pay it on credit card bills, or on your mortgage, or invest it, you will be way ahead.

Option 3: Have taxes reduced now and get some back in March - Unfortunately, we really have little idea how much money we will be getting back at income tax time. My biggest fear is always to have to write any cheque, and a cheque to the government in March would not be pleasant. This third option (the one that I will go with) will be to take whatever your income tax credit was last year, and divide it in 2 (and then by 26) and have your taxes cut by that amount each paycheque. In my above example, I got back $2600. I will cut this in half to $1300, and then divide it by 26, giving me an extra $50 per paycheque. In this way, I will also get $1300 back at income tax time. Even if there is a slight change in taxes (positive or negative), there is a guarantee that my paycheque will be larger and I will still get money back at tax time.

Does this make sense? I will go with Option 3, but Option 2 is much more optimized. Leave a comment with your opinion.