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Education Savings

Your self-employment can help pay for your child's education By Tim Cestnick

So, your child has just headed off to college or university. There's nothing like three or four years at postsecondary school to prepare your child for the real world. Consider Mathew Robert Damsky, 18, who learned a valuable lesson in July on the campus of the University of Central Florida.

Mr. Damsky admitted to setting a couch on fire with a lighter in a dormitory on campus. Apparently, he thought it was a good way to meet girls since they all had to evacuate the building. Mr. Damsky has been charged with first-degree arson because the building was occupied. If he's convicted, he faces a maximum of 30 years in prison and a maximum of $10,000 (U.S.) in fines. He was also placed on academic probation. Turns out there are easier ways to meet girls.

Maybe the lessons your child is going to learn at school will be a little more practical. Gee, you might even be glad that you helped to pay for that education.

Speaking of paying for education, a little self-employment can go a long way. Let me explain.

The strategy If you read the Canadian Income Tax Act (which I highly recommend if you're having trouble sleeping), you'll discover that you simply cannot claim a deduction for all of the costs of your child attending college or university. Sure, you might be able to claim a tax credit for tuition and an education amount, but these credits are capped, and can only be claimed by you if your child can't use them. Further, there are a lot of costs that won't give rise to meaningful tax relief, if any (the cost of food, rent, transportation, and entertainment, for example).

There's a way to indirectly make any costs of education deductible for tax purposes, if you're self-employed. Consider Mike's example. Mike has a son, Rick, who is attending university this year. This summer, Rick worked in his father's part-time home renovation business. Mike will pay Rick $15,000 throughout 2006, which Rick will use to pay for his year at university.

How much tax do you suppose Rick will pay on that $15,000 in wages? Zero, if he has no other source of income. You see, Rick is entitled to personal tax credits which should fully offset the tax on this income. Specifically, Rick is entitled to tax credits based on the following amounts: A basic personal amount of $8,839 in 2006, education amount of $3,200 (assumes full-time attendance for eight months at post-secondary school in 2006), and a tuition amount of $5,000 (assumed amount of tuition). Adding up these amounts means that Rick could actually earn up to $17,039 in 2006 and pay no tax.

The result Here's the overall result: Mike claims a deduction for the $15,000 in wages paid to Rick, which will save Mike $6,900 in tax (assuming a marginal tax rate of 46 per cent). Rick has $15,000 in his bank account, pays no tax on the amount, and now uses the $15,000 to pay for school. In effect, Mike has claimed a deduction for the amount used to pay for his son's education. And it doesn't really matter what costs Rick uses the $15,000 to cover; the amount is still deductible to Mike regardless.

If you hope to deduct the salary or wages paid to your child, the amount needs to be reasonable for the services provided. Generally, this will be about the amount you'd pay to an unrelated party to do the same work. You'll be able to justify paying your child more in the year if he or she works during school as well as in the summer.

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