E=MC2, Einsten & Income Tax

Who knew Albert Einstein had so much to say about income tax.  In response to a question about how he approaches completing his income tax return, the brilliant mathematician said; "This is a question too difficult for a mathematician. It should be asked of a philosopher."

In my last post, I made the statement that a tax refund is not a good thing.  A tax refund means that you have over-paid on your income taxes over the course of the year, and the government is simply returning your over-payment.  In Canada, taxes are collected in two distinct ways:  income tax and sales tax.  You are taxed by means of your income, and Canada uses a graduated tax system such that the more income your earn, the higher the tax bracket and therefore the higher he income tax you pay.  You also pay a consumption tax in the form of sales tax.  Everyone pays the same amount in consumption tax.  We call this HST or Harmonized Sales Tax and it costs 13% of goods and services.

When we consume goods or services, the tax is charged to us at the time of purchase.  Income tax is a little different.  If you are employed, then your income tax is charged by your employer and remitted (or paid) to the Canada Revenue Agency (CRA), and your pay statement will show the amount deducted and the net amount (the amount that you get to keep) paid to you.  You might think your job is done.  It is not.  All tax payers in Canada must file an income tax return - which is simply a self-report on all the sources of your income. 

So what do taxes provide?  Taxes put out fires, keep our streets safe, provide our children with education, provide our families with health care, ensure our food and water are safe, create legal safeguards for businesses and employees, provide parks – in other words, provide us benefits every hour of the day, every day of the year.  The problem with income tax is that there is a disconnect between the taxpayer and the tax collector.  The taxpayer must file a self-report called an 'income tax and benefit return'.  Why is it called a benefit return? This is because you are likely eligible for some tax credits, tax write-offs, or some other forms of deductions that affect your ultimate amount of income tax. This self-report has a deadline of April 30th for most individuals. 

Once you have self-reported, CRA then audits your self-report and comes to various conclusions;

1. CRA agrees with you and cashes your payment for taxes owing;
2. CRA agrees with you and issues you a payment for a tax refund;
3. CRA disagrees with you, makes adjustments to your income tax and benefit return, and provides a response in the same form as #1 or #2 above
4. CRA disagrees with you, and determines that you are subject to an audit.  If you have ever been subject to an audit you might describe it to a colonoscopy but with less dignity

Sound confusing?  Sometimes it is, and sometimes we make it more difficult than it needs to be.  The reality is that there are plenty of tools available to Canadians to help them with understanding their income tax options.   So why is this a topic for Financial Literacy month?  Income taxes affect all of us whether you are retired, just entering the work force, self-employed, blue-collar or white-collar.  If it still seems like a 'taxing matter' (sorry, couldn't help myself), then you should consider hiring a professional accountant.  We hire a mechanic to fix our vehicles, so why not hire a professional accountant to solve our taxing problems. 

Knowing about income tax - it's just being financially literate, and you don't need to understand E=MC2 to do it.