Wednesday, April 3, 2013

The Canadian Postdoc's Guide to Income Tax Returns

Doing income taxes aren't really a subject that excites most people, much less so if you're a scientist.  But ask any postdoctoral fellow or PhD student about income taxes, and you'll usually find someone very excited to tell you why they should or should not be paying taxes, depending on whether they consider themselves an employee or a student.

The debate about academic researchers and taxes in Canada was a hot topic for several years starting in 2006, when a scholarship exemption was introduced making training stipends tax-free.  Almost instantly, you could hear PhD students across the country breathing a sigh of relief once the onerous obligation of paying about $1000 a year in taxes on their T4A Scholarship & Fellowships income was erased.

Postdoctoral fellows were similarly happy because they too, became exempt from taxes on their relatively larger salaries (sorry, stipends).  All they needed was a T2202A form to certify they were in an educational program, which many universities were happy to provide.

But the University of Toronto was one of the cautious few, refusing to issue those precious T2202A forms to postdocs between 2006-2009, to the displeasure of many and triggering a lot of debate across Canada.  In an unfairness that rankled many trainees, some postdocs paid taxes and some did not.

In retrospect, UofT's move looks like it was a wise one.

In March of 2010, the government effectively shut down this manna raining down on trainees with it's simple budget decree that "post-doctoral fellowships will be taxable".  Later that year, the Canadian Revenue Agency also stated that they would not accept that PDFs were qualified for tax exemptions between 2006-2009, which raises the possibility of many ex-postdocs becoming liable for back-taxes, some to the tune of 20 or 30 thousand dollars. But so far, I've never heard of anyone having to pay.  Thankfully PhD students get to enjoy their tax-free stipends, for the time being.  My friend David Kent has also put up an article summarizing the history of problems with postdoc taxes over at the Black Hole.

Anyways, I'm digressing; I'm in the camp that once you're out of an educational program, you're not a trainee, you're an employee.  While it's true that a postdoctoral fellow is given opportunities to learn technical skills, develop as a professional, and learn to manage their own projects, it's fallacy that a postdoc is different than many other middle-level career positions where you get to experience the same or very similar kind of personal growth.  I have many friends that went through medical residencies, articling, or obtained their CMA or CA designation while working in various companies.

All in all, being a postdoc is a pretty decent job, but there are many catches in the tax code that are annoying if you don't think financially, and so whether you're a postdoc or student, it definitely helps to educate yourself on financial basics with elementary books on the subject:

  • The Wealthy Barber Returns, a remake of the classic Wealthy Barber, which I read back in early high school and set a pretty good foundation for my whole post-secondary career (this one is out of print and hard to get), or
  • The Millionaire Mind, one of the best books I've read on understanding the psyche behind people that are financially independent.  A great set of results from studies conducted by Thomas Stanley, PhD.

If you're a postdoc (which you probably are if you're reading this), I'd say that general financial planning books advising on buying a home or making investments are probably going to be more useful over the usual ones encouraging you to get out of debt by cutting out lattes, or using a system of envelopes to keep your budget.  You made it through grad school and I'm sure you already know how to cut expenses to the bone.

Anyhow, let's run through some taxes.

My own tax return is a little more complicated than I describe here (I do some consulting from time to time), but I'll work through my tax return as a "typical Canadian postdoc" residing in Ontario, and earning only fellowship income in 2012:

Line 101 - Employment Income (Box 14 on T4 slips)
Despite working like a dog throughout the year, I didn't get any employment income!  This income is considered "earned income", and becomes very important throughout the return.

Line 130 - Other Income
Here's where you put your salary (sorry, stipend!) amount in from Box 105 on your T4A.  You get a basic tax exemption on $500 of that stipend, with the rest of your postdoc salary being taxable.  The "Tax exemption for full-time education" will remain Zero (unless you receive a T2202 form, which you shouldn't get).  This line also curiously leaves you with the impression that the government doesn't really deem a postdoc an educational activity.

Line 206 - Pension Adjustment
Pension!  Ha!  Usually this line contains an amount that adjust your RRSP contribution room downwards to compensate for money your employer paid into a pension plan for you.  Postdocs, move along now.

Line 208 - RRSP Deductions
Ok, so I have no pension plan.  Perhaps I can contribute to an RRSP, reducing my tax payable and take the responsibility of saving for my retirement.  Here, sadly, you need to have "earned income" to generate contribution room and a salary on a T4A doesn't count.

Line 300 - Basic Personal Amount
The first $10,822 that everyone makes is tax free.

Line 367 - "Children"
I have one child, who brings me much joy, much more so than reading the latest papers in Nature or even presenting my data at a conference.

And because I have that one child, I get to deduct another $2,191, which represents a whopping tax savings of about $330 per year.  (I can assure you that my son eats much more food than this will ever buy.)

Line 308 - Canada Pension Plan Contributions
For postdocs: Zero.  Employees earning up to about $50,000 per year will max this out at $2,306, and if they don't feel like they would pay enough they can complete Schedule 8 to voluntarily contribute to the CPP (The logic of doing this is a matter for other websites to debate).

Unfortunately, like with the RRSP example, a postdoc's T4A Fellowship income doesn't count as pensionable income, so you can't even make use of this.

This is particularly annoying as CPP payments are calculated from your best 40 years of earnings between 18 and 65 and many postdocs in the 30-35 range have essentially "earned" nothing throughout undergraduate and graduate degrees and forfeit part of this government benefit forever.  Arguably, advanced degrees should make up for this financial hit, but there are no guarantees.

Line 312 - Employment Insurance Premiums
Here we have a similar situation to CPP, above.  Postdocs need not apply.

Why bother with Employment Insurance, you ask?  A research position isn't a strenuous job: Yes, there are some significant health hazards, but postdocs aren't lifting heavy objects, are probably not going to fall off a roof, and generally don't have many workplace injuries, except for pipette thumb and carpal tunnel syndrome.

But the one major benefit of EI is parental leave, and this is one benefit that seems important to the postdoc (i.e. 26-35 year old) demographic.

While it's true that some postdocs are entitled to parental leave, the duration is either four or six months depending on whether the parental leave comes from NSERC or CIHR funds, respectively.  The University of British Columbia further highlights the challenges facing postdoc parents-to-be, as there are different rules for whether one is a 'trainee' postdoc or 'employee' postdoc.  The latter pay into EI and are eligible for the full 12 months of combined maternal/parental leave, which pays an amount equal to 55% of your salary.

Progressive policies notwithstanding, I haven't heard of any postdocs going on parental leave using NSERC or CIHR funds, but I would like to hear from anyone that has actually gone through this process.

Line 363 - Canada Employment Amount
This would have been $1095, but since a fellowship isn't classified as 'earned income' we'll leave this at zero.
Forgone tax savings: $164.

Line 364 - Public Transit Amount
Do you use a monthly transit pass to get to work?  Write it off!  You'll get 15% of their value back in tax reduction.

Line 319 - Interest Paid on Student Loans
Are you still paying off your student loans?  There's no shame in taking your time to get that loan balance down to zero, but in the meanwhile remember to claim the interest you pay here.
Value: Up to 20% of your interest paid.

Line 323 - Your Tuition and Education Credit Amount
For early postdocs, you've probably accumulated a lot of unused Tuition and Education amounts from your seven five year PhD.  Under the current tax rules, a PhD student gets a credit of $465 per month, plus the value of tuition paid, totaling about $12,000 per year as a credit used here to reduce tax owing in the current year.

Since the 2006 scholarship exemption kicked in, students just carried these credits (worth about $2,400 in tax, in Ontario) forward for use in the future, when they actually don't tax-free stipends or salaries (like postdocs).  This will usually cover your first year of postdoc taxes.

We're nearing the end!

Line 435 - Total Tax Payable
This line gets filled in after you've completed Schedule 1 (for Federal Tax) and Form 428 (For Ontario Tax), and basically indicates what you should have paid in tax throughout the year.

For a single individual in Ontario with $40,000 of T4A Fellowship income it's about $6,300.  With $50,000 your tax bill is about $9,300.  And if you're making bank with a Banting Fellowhip, collecting $70,000 from the government, you now get to send $15,600 of that back!

Line 437 - Total Income Tax Deducted
Finally, this is probably the most terrifying line for many postdocs, because it's probably Zero, as in "You've paid Zero to offset the sting of Line 435".

To my knowledge, you can't elect to have income tax deducted from a T4A pay stub (I've tried), and while it's true that you can opt in to paying installments throughout the year yourself (Line 476), I've only met one postdoc where the CRA has sent them a letter requesting that they do. Instead, most tax-aware postdocs have an automatic savings plan through a bank like ING Direct to set aside funds for the tax bill the following April.

Unfortunately, many tax-unaware postdocs won't have done this and experience the nausea of realizing that they need to find several thousand dollars to remit their back-taxes before April 30th.

So don't become one of those postdocs.  I've put together a table of total income tax payable for postdocs in Ontario, BC, and Quebec that serves as a starting guide for how much you might have to pay.  Save it throughout the year. 

I set up automatic transfers to move my estimated tax bill from each paycheque to an ING Direct account, so that the money is available when Revenue Canada wants it.  If you open an ING account using my referral key below, you can get a $25 bonus if you deposit at least $100.

That pretty much covers the basics.  If you have anything more than a T4A and rent payments (which I didn't include above), I do recommend using tax software like TurboTax for the time savings over using pen and paper.  This is especially true if you have a spouse, have some savings and/or investments, collect rent, etc.  I also need to stress that this article isn't tax advice and if you're in doubt of what applies to your own situation you should consult your own tax advisor.

Good luck!

TurboTax:   This is what I use every year and it's highly recommended.

Other personal finance books you might find helpful include:

If you're an American contemplating a move to Canada:

Update July 30, 2013: Included a few words on personal finance.
Update October 2, 2013: Include reference to ING Direct