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Jim Maroney Jim Maroney

:: Christmas bonus, if done right, offers chance to reward employees while getting a nice employer tax break

:: A Hewitt Associates survey released at the beginning of this month indicated that 35 per cent of employers offer their employees some form of Christmas bonus. Of this group of employers, 39 per cent give cash while 37 per cent provide employees with a gift certificate. If this is true, 76 per cent of employers who provide a Christmas bonus to their employees are failing to take advantage of a glorious scoring opportunity.

Last year, CCRA announced a new policy in the area of employer-provided gifts that is remarkably generous. A fact sheet was also released early this month to remind employers about how gifts given to employees are taxed. CCRA issued the fact sheet as a warning to employers to stay within the guidelines – if the Hewitt survey is accurate, the fact sheet should serve as a wake-up call to employers and not a warning. So if you’re an employer read-on.

CCRA’s policy applies equally to employee awards but I’ll deal strictly with gifts. Effective 2001, CCRA’s new policy on gift-giving is as follows:

1. To mark special occasions such as Christmas, Hanukkah, birthdays, or a marriage, employers can give their employees two non-cash gifts per year on a tax-free basis – yes, that’s right tax-free!

2. The two gifts' total cost to the employer,including taxes, cannot be over $500 per year.

3. Employers can deduct the total cost of the gifts from their taxes.

4. Employees do not have to declare the cost of the gifts as part of their taxable income.

5. If the cost of each gift is over the $500 limit, the employer must include the full fair-market value of the gift(s) in the employee's income.

6. If an employer gives two or more gifts in a single year and their total cost is over the $500 limit, the employer may have to include the fair-market value of one or more of the gifts or awards in the employee's income.

7. The new policy does not apply to cash or near-cash gifts such as gift certificates, gold nuggets, or other items that can easily be converted into cash. The value of this type of gift or award is considered a taxable employment benefit.

Allow me to repeat that last point – the new policy does not apply to cash or near-cash gifts such as gift certificates. This means that by giving cash or gift certificates, employers are giving less to their employees than they otherwise could and, of course, employees are provided with less purchasing power in the gift they receive. In other words, where bonuses are provided in the form of cash or gift-certificates, both the employer and employee are losing out.

Consider the case of two employees of Options Inc., Don Wright and Don Wong both of whom pay income tax at the middle tax rate of roughly 30 per cent. Assume both Wright and Wong have reached the maximum income levels for CPP and EI. Options Inc., a generous employer, offers a $500 Christmas bonus to Wright and Wong.

Wright is familiar with CCRA’s gift policy so he tells his boss at Options Inc. that he’d prefer to receive his bonus in the form of a gift rather than plain old cash. Indeed, Wright has found a “toy” he’d like to buy that costs $436.68 - could be a TV, DVD player, Nintendo, snowboard, Barbi doll set, it doesn’t matter. Options Inc. buys the item and gives it to Wright – at $436.68 the total cost of the gift with taxes included comes to $500. Since this amount falls within CCRA’s gift policy limit and it’s the only gift he received during 2002, Wright does not have to pay income tax on the amount of the gift – that’s right, Wright has a tax bill of zero. Options Inc. receives a deduction from its taxable income for the amount of the gift – this is no different than had the gift been in the form of cash so Options Inc. is indifferent.

Wong is the indecisive type and can’t think of a gift idea so he decides to take the $500 cash bonus. The first thing Wong notices is that his employer has withheld $150 of tax so his net bonus cheque is only $350 – the $150 is Wong’s Christmas gift to Ottawa.

Shortly after Wong receives his cash bonus, Wright shows Wong the “toy” he bought and Wong decides that he’d like to have one of those “toys” too. But alas, Wong only has $350 of cash from his bonus – clearly not enough to complete the purchase. In order to buy the same “toy” as Wright, Wong needs to buck-up for another $150 of cash. This extra cash isn’t just any old cash but savings that Wong has accumulated from previous paycheques – in other words, like the $350 leftover from Wong’s bonus, the extra cash is after-tax dollars. At his 30 per cent tax rate, the pre-tax income Wong needed to have $150 of cash left over after tax was $214.29.

So when all is said and done, Wong gave up $714.29 ($500.00 plus $214.29) of his income to buy the same thing Wright bought for $500. By opting to take his bonus in the form of cash instead of a gift, Wong did the wrong thing. Wright on the other hand played his hand smartly by choosing to receive a gift instead of cash – three cheers for Wright!

By providing Wright with a gift instead of cash or a gift certificate, Option Inc. is no worse off – in either case Option Inc. is entitled to deduct the cost from its taxable income. Indeed, Option Inc. could very well be better off by providing its employees with a gift instead of cash. If Wright and Wong hadn’t reached the maximum limits for CPP and EI as I assumed in my example, Option Inc. would have been required to pay the employer’s share of CPP and EI on the cash bonus – there’d be no such cost where a gift is concerned.

This looks like a slam-dunk decision to me. Structuring a Christmas bonus as a gift rather than paying cash or near-cash is the ever-elusive win-win for employees and employers. When a cash bonus is paid, one of the big winners is Ottawa. If you trust they’ll spend your money wisely then be my guest - billion-dollar boondoggles like the firearms registry don’t come cheap.

Free Tax Advice Article Submitted to Income Tax exclusively by Jim Maroney
CA Canadian Chartered Accountant with Brown, Andrews & Maroney in Maple Ridge, BC, Canada

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