Understanding tax brackets in Canada
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Updated: April 15, 2022
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We all pay taxes, but most Canadians don’t know what tax bracket they fall under. Knowing your tax bracket ahead of time can help you to better plan for the coming years. It can also help determine if an investment is worthwhile once you take the taxes you’d owe into account.
We’ve covered the most important things you need to know about tax brackets in Canada, including how they work and how to figure out your tax bracket. You’ll better understand where you stand and how much taxes will be taken from your salary.
Tax brackets in Canada
Before we start, let’s look at the different tax brackets in Canada.
Federal tax brackets
Here are the federal tax brackets for 2021:
Provincial and territorial tax brackets
The tax brackets vary with each province and territory. You can view the rates for 2021 and previous years dating back to 1985 on the Canada Revenue website.
How do tax brackets work?
When you hear the term “tax bracket”, your eyes might glaze over. That’s okay. We’ll break it down in simple terms.
The tax bracket you fall into is based on your taxable income. This is your gross (before tax) income you receive from all sources (employment, self-employment, investments, etc.), minus any tax deductions you’re entitled to claim (basic personal tax credits, RRSP contributions, etc.).
It’s pretty easy to calculate your taxes if you know your taxable income. Simply apply the relevant federal and provincial tax rates to your taxable income.
You might be wondering whether you should apply the federal or provincial tax rates first. It’s important to know that the federal tax rate is applied first, and after that, you can calculate your provincial tax. Finally, add the two figures together, and voila!
There are currently five federal tax rate brackets. The number of provincial or territorial tax brackets depends on where you live. Different tax rates apply to each tax bracket, but the tax rate gets progressively higher the more income you earn.
What’s a marginal tax rate?
You may have heard of the term “marginal tax rate.” Your marginal tax rate is simply the federal and provincial income tax combined. Your marginal tax rate depends on where you reside in Canada, where you file your tax return, and how much taxable income you declare on your return.
How does Canada’s progressive tax system work?
You may have also heard of the “progressive tax system.” Progressive tax systems refer to the fact that the higher your income, the more tax you’re expected to pay. Instead of all Canadians paying the same tax rate, those who earn more pay a higher percentage of their income to taxes.
To better understand how a progressive tax system works, it helps to think of tax brackets like rungs on a ladder. The higher you climb on the ladder, the higher the tax rate you pay on the next dollar of income that you earn. This last part is key.
This is a common misunderstanding with marginal tax rates. Canadians often think that if they earn an extra dollar of income, their marginal tax rate will apply to all their taxable income, but that isn’t the case.
Your marginal tax rate is one you pay on your next dollar of income. Unless you’re already in the lowest tax bracket, lower tax brackets will still apply to the rest of your income.
Your marginal tax rate is different from an average tax rate. The average tax rate is calculated as the total amount of taxes your total income pays. Your average tax rate will almost always be lower than your marginal tax rate (unless, as mentioned earlier, you’re already at the lowest tax bracket).
How to know your tax bracket
To know what tax brackets you fall under, you must first calculate your taxable income. Once your taxable income is calculated, you can figure out your federal and provincial or territorial tax bracket.
Start by finding where your taxable income fits within the federal tax brackets. The federal tax brackets are ranges, so your taxable income will likely fall somewhere in the middle. Then, subtract the minimum dollar figure in the tax bracket range from your taxable income and multiply it by the applicable tax bracket. Do the same thing for the applicable provincial and territorial tax brackets.
Calculating your federal taxable income
To better understand how tax brackets work, let’s run through an example together.
Let’s say you earned $45,000 in taxable income in 2021. If that’s the case, you will pay 15% of this amount in federal taxes or $6,750. Your taxable income falls within the first federal tax bracket because you have a taxable income of less than $49,020. This is simple enough.
However, let’s say your taxable income is double that. Instead of $45,000 it’s $90,000. In that case, you’d pay a 15% tax rate on your first $49,020 of taxable income. That amounts to $7,353 in taxable income at the lowest federal tax bracket. The next tax bracket after this is 20.5% on taxable income of between $49,020 and $98,040. $90,000 of taxable income falls in that range.
You’ve already paid tax on $49,020 of your taxable income at the lowest tax rate of 15%. Therefore, $90,000, minus $49,020, leaves you with $40,980 in taxable income. $40,980 multiplied by 20.5 percent is $8,401. (I’ve rounded up for ease.) As you can see, even though less income falls into this tax bracket than the first one, this amount is subject to a higher tax rate.
To find out your total federal taxes payable, simply add together the two figures of $7,353 and $8,400. That equals total federal taxes payable of $15,754. Of course, you can lower that amount by claiming applicable tax deductions or by qualifying for tax credits.
Adding your provincial taxable income
Don’t forget. We’ve only calculated your federal taxes due. There are still your provincial or territorial taxes to calculate. It’s the same idea as the federal taxes, but your rates change depending on where you live.
In case you’re wondering, your provincial or territorial tax bracket is based on where you lived in December of the year you’re filing for. For example, if you were living in Alberta for the first half of the year, moved to Saskatchewan at the end of June, and remained living there until December 31, the Saskatchewan provincial tax bracket rates would apply to you for the entire year.
Planning around your taxable income
It’s important to know what your tax bracket will be ahead of time. Knowing where you stand from a tax perspective will let you know how much of your salary will be taxed. This allows you to plan come tax time, so you’re not caught off guard by how much in taxes you owe.
Let’s say you’re getting a pay raise at work. You may want to spend some of that money. However, it can be tough if you have no idea how much money you’ll receive after taxes are paid. That’s why it’s helpful to know your tax brackets ahead of time.
Likewise, let’s say you’re considering buying a rental property. Similar to employment income, rental income is taxed at your marginal tax bracket. Suppose you’re already in the highest tax bracket and paying about 50 cents on the dollar in taxes (federal and provincial tax combined). Would that influence your decision about whether to buy the rental property? It probably would because your rental income would be taxed at that rate.
Hopefully, you now have a better understanding of how tax brackets work in Canada. If you use income tax software, you could calculate your own taxes payable on your last tax return and estimate your taxes payable for the following year. This will allow you to make better financial decisions, so you’re not blindsided by taxes going forward.
What is a surtax?+
When you see the tax rates in Ontario and P.E.I you may notice that the tax rates seem pretty low there. But that doesn’t tell the full story. In these two provinces there’s something called a surtax. Essentially, a surtax is a second tax. It’s a tax on top of a tax. In P.E.I. you’ll pay a surtax of 10 percent if your taxable income is more than $12,500. In Ontario it’s a little more complex. You’ll pay a surtax of between 20 percent and up to 36 percent depending on your taxable income.
What is the difference between a tax credit and a tax deduction?+
If you’re looking to reduce your tax bill, tax credits and tax deductions are a good place to start. Before you can tax advantage of them, it’s important to understand the difference between them. A tax credit reduce lowers your taxes, providing you with a more sizable refund. Meanwhile, a tax deduction reduces your taxable income, of which your tax rate is used to calculate the taxes you owe. A tax deduction is usually more valuable than a tax credit because of how it’s calculated.
When do tax brackets change?+
Tax brackets change based on inflation. On an annual basis federal, provincial and territorial governments increase tax brackets across the board to account for inflation. Brackets can also get updated when government policy changes. For example, the federal or provincial governments or a party running for office may make an election promise to adjust the tax brackets to the benefit of a certain segment of the population in a bid to get elected or win reelection.