We often get the question from our clients “Why do I have to pay tax instalments?”
If you had tax owing of more than $3,000 in the prior tax year, the Canada Revenue Agency requires that you make recurring income tax payments (otherwise referred to as instalments) by a specific date.
These recurring payments are tax instalments based on income earned in the current calendar year and remitted to the government, much like an employee has tax withheld on each pay cheque by their employer. These payments are applied to the income tax that will be owing by April 30th of the following year.
There are three options available for instalment payments:
No calculation method – this method is best used when your income, credits and deductions remain consistent every year; CRA uses this amount in the instalment reminder and it is based on the last two taxation years.
Prior year option – instalments are based on the prior year tax return. This method is most suitable if your current year income, credits and deductions are similar to the prior year amount, but differs from the amount two years prior. CRA provides a calculation chart for instalment payments on their website, you can link to it by clicking here.
Current year option – This option should be considered if your income, credits and deductions are significantly different in the current year than in the two previous years. In this case, the instalment payments are based on the net tax owing on your estimated current year income along with CPP contributions and voluntary EI amounts. To assist you with the calculation, CRA provides a calculation chart for instalment payments on their website (see link above)
If you decide to use the prior year option or the current year option and make the payments in full by their due dates, CRA will not charge a penalty or instalment interest unless the amounts calculated are too low.
It is important to note that if you estimate the tax owing for the current year will be less than $3,000, you are not required to make instalment payments, even though you may receive reminder notices from CRA.
If you would like to discuss instalment payments or need further clarification on this article, contact us at Five Star Accounting. If you would like to know more about our accounting and bookkeeping services, click here.