Our $ 13,000 Tax Mistake & How You Can Avoid It

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The year was 2016, but we never realized the tax mistake until 2017.

2015 was a huge turning point for us.  We had paid off our mortgage in 2014 and then decided to invest in real estate. In 2015 we bought our first rental property, in fact, we bought our first 4 rental properties that year.

Then in 2016 we bought our fifth rental property and made a huge tax mistake

Debt Repayment Strategy

One of the strategies we used when paying off our mortgage was to put a chunk of our savings into RRSPs (registered retirement savings plans) and then put the tax refund directly towards paying off our mortgage.  That way we were diversifying our investments slightly.

Part of our money went into our primary residence – although you could argue, and I would agree, that your home isn’t really an investment, more of a forced savings plan.  And part of our money went into our RRSP.

We were a high-income family at the time so every dollar we invested in our RRSP resulted in 42% of it coming back to us as a tax refund.

The Advice

In 2015 we were all in on real estate.  Someone gave us the (misguided in my opinion) advice to not invest in our RRSP so that we could have more money for rental properties.  

Here’s why that is good advice

On the surface, that seemed like sound advice.  If every property you own is cash flowing, then the more properties you own, the more cash flow you have every month.  Also, the more properties you own, the more tenants you have paying down your mortgages, the more your net worth increases.

In this case, if one is good, five, or ten must be better.  If you can afford the properties of course, which at the time we could, hence why we bought 4 that first year.  And by 2016 we now had 5 little property income streams.

Here’s why that is bad advice

Yes, every property was providing us with cash flow, great, more money in our bank account.  But from a CRA (Canadian Revenue Agency) perspective, it’s also more income, and more income means more tax.  Oh yeah, and remember that higher tax bracket we were in? That meant that every dollar we made form real estate was taxed at that higher amount.

And when you buy rental properties, nobody is holding back your taxes at the source as your employer does.  You need to consider this and either a) lower your tax burden somehow, b) make installment payments towards your taxes throughout the year or c) face a huge tax bill come tax time.

The Big Tax Mistake

When we filed out taxes for 2015 nothing seemed out of the ordinary.  At the end of the day, we ended up owing a few hundred dollars each, not a big deal.

But what we didn’t realize at the time and definitely do now, is that first year of owning those 4 properties there were a lot of write-offs that offset our profits.  When you included legal fees, appraisals, and property inspections into all the expenses, our properties were not that profitable that first year.

Problem was, we didn’t have those expenses the second year of owning the properties.  And in 2016 we only bought one property.  Add that to the fact that our first 4 were very cash flow positive that year and we naively did not contribute to our RRSPs again that year and we were saddled with a massive tax bill.

The Effect of the Tax Mistake

How big of a tax mistake did we make? Our tax bill was $13,603.61 to be exact.  And we were not prepared for it at all.

We had some money saved up that we could put towards this bill, but we didn’t have enough.  We ended up taking out a short term loan to cover the difference.

Thankfully we did not have a mortgage on our primary residence at the time so we were able to save a large portion of our income every month.  It still took us a few months to pay back the loan.  The interest we paid could have been put to much better use.

How We Fixed Things Going Forward

That tax bill was a really hard pill to swallow, and a tax mistake we vowed never to make again.

So in 2017, after paying our massive tax bill, we went back to our debt repayment strategy that had helped us pay off our mortgage in the first place.  For half of the year, we saved and invested that money into our RRSPs, and for the other half of the year, our savings went towards our real estate investments.

Although this substantially decreased the speed in which we could grow our real estate portfolio, it eliminated our need to pay taxes come tax time.  If anything, we now contribute more to our RRSPs than we need to, and put the refund towards our debt.

For years, we were earning income without really contributing to our RRSPs which resulted in a carryover of a lot of RRSP room.  We should be able to continue with our current debt repayment strategy for a few more years without running out of contribution room.

The secondary benefit of contributing to our RRSP is that it also helps increase our net worth, which is one indicator we use to track our progress towards financial independence.

How this applies to you

Okay, right now maybe you are thinking, well I don’t have rental properties, so this tax mistake doesn’t apply to me.  But in fact, it probably does.

Our mistake wasn’t buying rental properties; it was not understanding the math behind our taxes.  

Canada, and every province and territory, has a marginal tax rate system.  What this means is that every dollar of income is not taxed the same.

Canadian Federal Marginal Tax Rates (2020)

IncomeTax Rate
< $48,53515%
$48,535 – $97,06920.50%
$97,069 – $150,47326%
$150,473 – $214,36829%
> $214,36833%

So, depending on your tax bracket, contributing to an RRSP can have varying impacts.  The benefit of an RRSP is that that money can grow tax-deferred, meaning it is not taxed until you begin to withdraw from it.

Maybe contributing to an RRSP right now isn’t the best strategy for you.  But the point is to be aware and have a strategy.

Not sure what your strategy should be? Check out this RRSP refund calculator. Plugin your annual earnings (can be found on your final payslip of the year) and then play around with the RRSP contribution amount. You can easily calculate the “return” on your contribution.

Remember to put in the correct province, as each one has its own marginal tax rates.

I can't believe we made this tax mistake.  One small thing ended up costing us $13,000.  Find out how you can avoid this tax mistake and save yourself thousands of dollars. Pin this and share it with your friends so they too can avoid this tax mistake. #handfulofthoughts #taxmistake #moneymistake #howtoavoidmistakes

Our Tax Mistake – Final Thoughts

Arrogance and ego have a lot to do with our $13,000 tax mistake.  Because we didn’t have any tax issues with our 2015 taxes, we were arrogant in thinking that we never would.  Our egos lead us to believe that we knew everything and didn’t need help.

Had we asked for help or done a bit of tax planning we could have saved ourselves thousands of dollars.  

Now, instead of paying at tax time, our strategy enables us to come out even or get a refund.  The added benefit of this is that our RRSP strategy helps us to grow our net worth, instead of owing at tax time. And that tax refund? We promptly put it towards our debt.

What about you, what’s your biggest tax mistake?

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12 Comments

  1. I’m curious as to how you felt good about buying your fifth rental property at the same time that you didn’t even have $14,000 in an emergency fund? You were a high earner per your tax bracket but yet you never put six months of expenses away for just such an unplanned event? I’d say the tax mistake was minor, but the failure to have an emergency fund was a big deal. By the way, I lost $60,000 due to a tax decision in 2016, long story but it was kind of painful so I’m not judging since my mistake was even bigger than yours.

    1. Maria says:

      Thanks for the comment Steveark. We did have an emergency fund, but it was in the form of a home equity line of credit (HELOC). We were also using it for our real estate investing so that we could write off the interest (if we used it for personal use we would no longer be able to write off the interest). We had no intention of touching our HELOC for personal use unless it was an absolute emergency.

      Because we knew we could pay back the loan in a few months with minimal interest we didn’t touch our “emergency fund.” We also had savings in an account that was dedicated to our real estate investing so we were covered there too. Yes, there was some risk with our plan, but it was a level of risk that we were comfortable with.

      $60,000 is a lot to lose in a tax decision, I’m sure that there is a story there.

  2. Ouch. That’s why I am hesitant to own rental properties. It can work well if you have lower income from your regular job.

    Another advantage of contributing to the RRSP, also especially relevant now with the CCB (Canada Child Benefit) maximized.

    1. Maria says:

      Yes, there are so many benefits to your RRSP. One of my favourites is how there is no penalty for early withdrawals. We are planning on pulling ours out early because with all our rentals we will be in a higher tax bracket once we hit traditional retirement age.

      Rental properties can be a great investment, but they are definitely not passive. GYM I think you have a great plan with trying to grow your divident income.

  3. This was an excellent cautionary tale—whether you invest in real estate or stocks. It’s easy to forget to account for the taxes owing when you sell or earn an income on your investments.

    I made this mistake two years ago when we sold off a bunch of my husband’s stock options. For some reason, I just figured we’d receive a tax refund as we did every year. I was slightly shocked when we not only didn’t get a refund, but received a $2,400 tax bill!

    Thankfully it wasn’t huge. But I felt a bit sheepish about that mistake since it was only two years ago! I was experienced and savvy enough to have known that, but I somehow didn’t think of it.

    So sometimes, even when you think you know your stuff, mistakes can still happen! It’s brave of you to share your mistake so that others can learn.

    1. Maria says:

      You’re right Chrissy, anyone can make a mistake, no matter how savvy we may think we are.

      Tax mistakes are not something everyone talks about but I know a lot of people who have made them to varying degrees. They are definitely something we can all learn from.

      Thanks for sharing.

  4. I have my dad do a quick “check” on my tax situation at Christmas every year (with a few estimates as we’re not through RRSPs and such). I am very fortunate to own shares in the company I work for (which pay dividends) but they don’t withhold tax and I need to remember that come tax time. I actually started paying quarterly takes in 2019 and thought “oh I’ll be fine, I paid extra so I’d have enough already paid” and then I find out I’ll owe about $8,000 on top of the quarterly installments I had already made. Thankfully I have time to sort out the money but it was a bit of a jaw dropper.

    I need to get better at putting money into a savings account when the dividends come in so that I don’t get so much sticker shock at tax time.

    1. Pam – an $8000 tax bill is nothing to gloss over. The past few years we have also started making tax installment payments which have definitely helped at tax time, on top of contributing to our RRSPs.

      I am very curious to see our taxes for this past year because I paid my full installment payments but was also off on maternity leave for half of the year. My guess is that I have overpaid and will get a refund. Maybe not the most optimal situation but that refund will just get reinvested into our mortgage.

      Saving some of your dividends for tax time is a great idea. Look for a high-interest savings account, I personally am really happy with EQ Bank, and they have a 2.45% interest rate right now. Something worth looking into.

      1. I am looking at EQ bank. I’ll be mortgage free shortly and am thinking about buying a second property and want something better than the 1% interest I am getting from Tangerine while I keep some cash liquid for that next big purchase. I could raid my TFSA but I’d prefer to leave that for now as it is doing well and then becomes part of my retirement savings rather than a shorter term investment shelter.

        1. Sounds like you have a great plan Pam. I recently opened my EQ Bank account and have been very happy with the interest. It’s nice to check on the account once a month and actually see interest accruing. It’s also super easy to transfer money into and out of the account. This may be a good or bad thing depending on how disciplined you are.

  5. That’s so awesome that you’re mortgage-free on your home, and investing in rental properties! Taxes aren’t simple to figure out, even though I’ve been doing mine since high school. When you have multiple income streams and employer deductions, it can be hard to know where you’ll stand. Especially since tax slips don’t arrive before the rrsp deadline.

    1. Yes, taxes can be very confusing with multiple income streams. I remember when it was simple and I could do my taxes myself. Now with how complicated our tax situation has become we definitely rely on our accountant to help us. We have now learned our lesson and have a plan to not make the same tax mistake again.

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