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tax matters

Last weekend I played paintball with my kids. I don't know if you've ever played the game, but it can hurt. It hurt my ego, mostly.

Of course, it doesn't help that the kids wanted to gang up on Dad, and that I found myself sprinting across an open field thinking I could outmanoeuvre paint balls flying around me.

After a while, and several large welts, I got smart. I stopped running through the open field. That was a turning point for me. Instead, I found an old truck to hide in.

As I was taking cover, I felt relief. I couldn't help but think how much it reminded me of filing a tax return. How so? When you finish your return and realize you're getting a refund, it feels satisfying – a lot like you've been shot at – and missed.

The big question now, is what to do with your refund if you're getting one. It's time to revisit the top 10 things to do with your refund. Your order of priority might be different than this, but here's a countdown from No. 10 to No.1:

10. Spend the money
This idea is the most fun, but not likely the best financial decision. It does, however, beat losing the money at a casino.

9. Give an inheritance today
Helping your kids or relatives to pay for school, buy a home, pay down debt, or make investments can be a worthwhile use of your new-found cash.

8. Invest in your home
Your principal residence can be sheltered from tax thanks to the principal-residence exemption, so investing in your home to improve its value can shelter that added value, and its growth, from tax later.

7. Buy life insurance
Insurance can offer three key tax benefits: Tax-sheltered growth of investments inside the policy, tax-free payout on death of the insured, and a boost to the capital dividend account (CDA) of a corporation.

The CDA can allow shareholders to extract cash from the company tax-free. These attributes create many uses for life insurance.

6. Donate to charity
Why not do good and save tax at the same time? For every dollar you donate, you can expect back tax savings equal to a little under half of your donation, depending on your province and income level.

Take advantage of the first-time donor's tax credit introduced last year (it provides an additional 25 per cent in tax savings federally on your first $1,000 of donations if you haven't donated before, or since 2007).

5. Lend the money
Consider lending money to your lower-income spouse and charge today's prescribed rate of interest (just 1 per cent). By doing this, your spouse can invest the cash and he or she will pay the tax on the investment income – not you. Your spouse will have to pay the interest to you within 30 days of year-end each year, and you'll face tax on that interest, but your spouse will get a deduction for it. As long as your spouse is earning more than 1 per cent on the investments, you'll save tax over all.

4. Contribute to an RESP
By contributing to a registered education savings plan you'll help pay for an education for that child in your life, but you'll also generate a Canada Education Savings Grant from the government, which will effectively boost the return in the RESP.

3. Invest in your TFSA
Every Canadian age 18 or older should have a tax-free savings account. You're entitled to contribute $5,000 each year for 2009, 2010, 2011 and 2012, and $5,500 for each of 2013 and 2014. That's $31,000 in total room for contributions if you haven't contributed yet. Your tax refund may help to boost your savings and create tax-free growth inside the TFSA.

2. Contribute to your RRSP
Saving for your retirement should be your top priority when it comes to saving for anything in particular – including saving for the education of your kids. Contributing to your RRSP will provide additional tax savings from the RRSP deduction. The refund, assuming there is one, can then be used for some of the other ideas I've mentioned here.

1. Pay down debt
There is no better time than today to pay down debt given that interest rates are low. Once rates start to rise, it will be tougher to retire that debt. Every dollar of debt you pay down provides a guaranteed, after-tax, rate of return equal to the interest rate on your debt – which may be a pretty good return today.

Tim Cestnick is the president of WaterStreet Family Offices and the author of several tax and personal finance books.

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