Every year, the same unpleasant task: file your tax return. Unless you’re a tax nerd like - ahem - yours truly, you probably don’t get excited when the tax filing season starts, or start a file for the year’s tax information before the New Year’s confetti is cleaned up.

You, like many, many Canadians, might not even have a particularly clear idea of what your tax return actually says. If so, come on in. This episode is for you.

Tax & Benefits Return 101

When you “file your taxes” you’re completing two separate tax returns, one for the federal government, and one for the government of whatever province or territory you were a resident of during the tax year.

You’re also answering a couple of questions that don’t have anything to do with tax, like whether you agree to be contacted about registering to vote or–in Ontario at least–for the organ and tissue donor registry, but that the Canada Revenue Agency has agreed to ask to get maximum reach.

The parts that are actually about tax is focused on calculating four specific things:

How much income you had for the year
How much of that income is taxable
How much tax you owe for the year and how much of the bill has been pre-paid (by your employer or by your own instalment payments)
How much of your total tax bill can be whittled down or even turned into money the government owes you instead of the other way around

Most of us pay the closest attention to whether we’re going to get a refund or have to pay at tax time, and while it’s definitely important, especially if you have to pay and don’t have the money, it’s not the whole story.

There are pages and pages (and pages and pages) of worksheets and schedules that you might need to fill in if you’re self-employed, earn rental income, sell something for more than you bought it for, or receive dividends. All of this rolls up to the Federal Income Tax & Benefit Form (or T1), which is eight pages long these days, and organized into six distinct steps.

If you’ve never seen one, or haven’t looked closely at your own after it’s filed, I’ve included the Ontario 2024 version in the resources section for this episode if you want to follow along.

Step One: Identification & Other Information

Pages one and two are all about who you are, where you live, your residential and marital status, whether you want to communicate in English or French, if you have tax exempt income under the Indian Act, and if you own certain kinds of property outside of Canada, along with answers to those questions about voting and organ donation.

Step Two: Total Income

Page three is all about income–35 different kinds of it, with numbered boxes that you can look up at canada.ca/line-xxxx (where xxxx is the line number you’re interested in) if you’re so inclined.

Keep in mind that the CRA already has most of the information you’re required to report to them on your return. Your T-slips are sent to the CRA at the same time they’re sent to you, and are all helpfully collected on your CRA Account online (and if you don’t have access to yours, head back to Episode One to find out how to get it).

This whole page culminates in a number on Line 15000 (what used to be known as Line 150. I’m too old to reliably remember how many extra zeros I’m supposed to say now). This is your total income.

Steps Three and Four: Net Income and Taxable Income

Pages four and five are all about chipping away at your Line 15000 total income with deductions. These include things you might be familiar with, like RRSP contributions, union dues, and child care expenses, some employment expenses, and plenty of things you might never have encountered before and may never encounter in the future.

All of these deductions, losses, and reductions are subtracted from your total income with the result reported on Line 26000, your taxable income.

Step Five: Federal Tax

At the bottom of page five is where you encounter the truth of what’s known as a “progressive tax system”. When you look at the calculation in this step, you’ll see what that means: take the number from Line 26000, and on the first $55,867 of this amount you pay 15% in federal income tax, on the next $55,866 of this amount you pay 20.5% in federal income tax, and so on.

These are the “tax brackets” you’ve heard so much about. If you have $55,868 in taxable income for 2024, you’ll pay 15% tax (or $8,380.20) on $55,867 of this, and 20.5% tax (or $0.21) on the remaining $1, for a total federal tax on taxable income of $8,381.20.

Non-Refundable and Refundable Tax Credits

Let’s step away from our tour of the Income Tax & Benefit Return for a moment so I can share with you the single most useful mental model I’ve ever encountered, courtesy of John Stapleton from Open Policy Ontario.

Deductions and tax credits are a delivery vehicle for government incentives to certain behaviours, like having children and contributing to your own retirement savings, among many other things. Deductions are relatively straightforward, since they’re directly subtracted from your income before taxes even enter the picture.

Tax credits are a bit of a different animal, in that they come in two flavours: refundable tax credits and non-refundable tax credits, and John’s mental model helps me understand the difference between them by going to the grocery store.

A non-refundable tax credit for things like medical expenses and charitable donations is like a coupon for money off of your income tax bill. If you don’t have enough taxable income (line 26000) to pay income tax, the non-refundable tax credit coupon is worthless.

You wouldn’t go up to a cashier at the grocery store with a coupon for 15% off Tide and ask them to give you 15% of the sticker price without buying any Tide, because that’s not how coupons work. You’re still free to give to charities, and you have medical expenses, but the government gives low and moderate income earners less incentive to do so than they do to people with higher incomes.

Refundable tax credits, like the GST/HST, Working Income Tax, and Child Benefit credits, are like gift cards that you can use to buy anything you want at the grocery store in our mental model. It’s cash paid monthly or quarterly to people with low and moderate income, but not to people with high income.

If you want to learn more from John about tax policy and especially about Retiring on a Low Income, I’ve included a link to his website in the resources section of this episode.

Step Six: Refund or Balance Owing

Here’s where the rubber meets the road. Once you’ve calculated how much income you had for the year, deducted stuff like RRSP contributions and childcare to calculate how much of that income is taxable, chopped up your taxable income so it fit into the tax brackets and applied the proper percent to each bracket, and applied the coupons (non-refundable tax credits), you end up with line 42000: net federal tax, the amount the Government of Canada has put you on the hook for.

But wait, there’s more!

If you’re working, your employer is required to take money from your paycheque and send it to the CRA to pre-pay your tax bill. If you’re self-employed or retired you might be required to pre-pay your own taxes every three months (aka paying by instalments). Self employed people also have the joy of paying the employer portion of their Canada Pension Plan and Employment Insurance premiums (but we’ll get into that in another episode, promise!)

You also have to add the amount of tax your province or territory is putting you on the hook for (which involves a whole other tax return, but one that follows similar logic to the federal return).

Now we’re at the final formula: your net federal tax (Line 42000), plus CPP and EI premiums if you’re self-employed, plus repayment of any social benefits like EI or OAS that you got but turns out you weren’t eligible for, minus the amount of taxes you or your employer have pre-paid, equals: your refund (if it’s a negative number) or the amount you owe (if it’s a positive number).

Why is this important?

Knowing the basic mechanics of your tax return is important because familiarity decreases anxiety, less anxiety means more ability to think clearly, and thinking clearly means better decision making and more power over your own life.