More and more people say to me that they don’t contribute to RRSPs. They don’t think it makes sense. If they ask my opinion, my response always depends on the specifics of the person who is asking. For the purposes of this article, I will address a few different scenarios.
For all of these examples, the key factors to consider are the following: In retirement, will the person likely be in a higher tax bracket than they are today, the same bracket, or a lower one? I call this the tax teeter-totter. Will their income likely be meaningfully higher or lower in the next five to ten years? How old are they? Are they married and, if so, how long will it likely be until both spouses have passed away?
This person has seen what happens when someone dies with a large RRSP or RRIF. When a single person (including widows and widowers) dies, their remaining RRSP or RRIF balance is fully taxable in the final year. For example, if their final balance is $500,000, nearly half of their account will disappear to taxes. Because of that concern, many people with a sizable RRSP and often high income decide that the RRSP isn’t a good use of their funds. To these people I say, “You are making a mistake.” If you are in a tax bracket where you can get at least a 45 per cent refund on an RRSP contribution, I say take the money today, get many years of tax-sheltered growth, and you can worry about a high tax rate on withdrawals at some point in the future. Depending on the province, this 45 per cent tax rate tends to be in place once your taxable income is above $150,000. While you could make a financial argument that it is possible to be worse off to do an (R)RSP contribution depending on what happens in the future in terms of taxes, given the certainty of tax savings at the front end, I would highly recommend making the contribution.
In Ontario, if your income is $35,000, your marginal tax rate is 20.1 per cent. If your income is $50,000, your marginal tax rate is 29.7 per cent. If you are making $35,000 today, but think you might be making $50,000+ in the next couple of years, it is better to put any savings into a TFSA now, and wait to do the RSP contribution until you are making $50,000. This is the situation for many people early in their careers. You will be making almost 10 per cent more guaranteed return (29.7 minus 20.1) by waiting, but will still have the same tax sheltering in the TFSA as you would in the RRSP. In general, if you think you will likely be in a much higher tax bracket in the near future, it is better to hold off RRSP contributions, and save up the room to use when you will get a much bigger refund. As a rule of thumb, I suggest people with a taxable income under $48,000 put any savings into a TFSA before putting it into an RRSP.
This is the opposite situation and recommendation to No. 2. If you think that you will be in a much lower tax bracket in the near future (taking time off work for whatever reason), you may want to put money in the RRSP now, and actually take it out in a year when your income will otherwise be very low. Many people do not realize that you can take funds out of your regular RRSP at any time and at any age. While you will be taxed on these withdrawals as income, if the tax rate is very low because you have little other income, it usually makes sense to withdraw the money in those years and put it back when your income is much higher.
Some people figure that there is no point to put money into an RRSP in their late 60s because they are just going to draw it out shortly anyways. It is true that one of the values of tax sheltering is the compounding benefit of time. Putting a dollar into an RRSP at age 30 will likely have more of an impact than at age 68. Having said that, often people forget that even if they start drawing funds out of a RRIF at 72 or earlier, they may very well still be drawing out funds 20 years later. There is still many years of tax sheltering benefit. The question goes back to the tax teeter-totter. If they are going to get a 25 per cent refund to put funds into their RRSP, but will be getting taxed at 30 per cent or more when they take it out, then it probably doesn’t make sense to contribute more to their RRSP. It all comes back to their likely income and tax rates once they start to draw funds down from their RRIF.
The answer to the question of how to contribute to an RRSP for couples with a significant age difference depends on the taxable income of each person and the ability to most effectively split income over the next number of years. Larger age gaps can be quite valuable for RRSP investing. One reason is that if the younger spouse has a Spousal RSP, and the older spouse still has RSP room, the older spouse can contribute to the younger spouse’s Spousal RSP. This can be done by the older spouse, even if they are older than 71, as long as the younger spouse is below that age. In this example, if the 58-year-old isn’t working, she can actually draw income out from their Spousal RSP and claim the funds only as their income, even though the 72-year-old had benefitted from the tax advantages of contributing over the years. As a reminder, if the younger person had a large Spousal RSP and the older one had no RSP or RIF, they wouldn’t be forced to draw any income because the younger partner was not yet 71. The one area to be careful of is that for the income to be attributable to the 58 year old and not the 72-year-old, there can’t be any contributions to the Spousal RSP for three years. To take advantage of this scenario, maybe the older partner contributes for many years to the Spousal RSP, but stops three years before the younger spouse plans to draw the funds.
While the RSP is generally a positive wealth management tool for many Canadians, there is a time to contribute, there is a time not to contribute and there is a time to withdraw funds. Each situation may create opportunities to maximize your long-term wealth. Choose wisely.
Reproduced from the National Post newspaper article 19th February 2020.
An industry colleague and I were talking the other day about registered retirement income funds (I know, we aren’t the most exciting people) and he suggested the government should just remove RRIF minimum withdrawals entirely. The comment was like a lightning bolt to me. It is such a straightforward thought and, in my mind, makes a lot of sense.
What fascinates me is that seniors would love to see this change, because it would likely lower their tax bill in the short term. Our firm will quite often tell people to draw more down than the minimum, and we like to take a lifetime approach to taxes. Either way, let’s look at this idea from both the government and individual’s perspectives to see if it is something that could really work.
In 2015, the federal budget lowered the amount that had to be withdrawn from a RRIF each year starting after you turn 71. This was a pretty major change, lowering the minimum withdrawal at age 71 to 5.28 per cent from 7.38 per cent. The change was viewed as a big win by seniors’ advocacy groups, and likely resulted in a meaningful decline in taxable income for many seniors — at least in the short term.
In 2019, the federal budget announced a new advanced life deferred annuity under certain registered plans, which is an annuity that can be purchased from within an RRSP or RRIF, and where the payments can be deferred until age 85. Again, the goal was to help seniors find another way to defer, somewhat, drawing out their RRIF assets each year.
My view is that the government should stop tiptoeing around and just eliminate the minimum withdrawal altogether.
Overall, I believe the federal and provincial governments would collect more in tax dollars if they allowed seniors to draw out as little or as much as they wanted each year from their RRIFs. The reason is that if someone leaves as much money as possible in their RRIF, it still ultimately gets taxed when the person dies (or when the surviving spouse dies). If there is a sizeable amount in the account upon death, the entire amount is taxed as income in the final tax return, likely at a higher tax rate.
Let’s say someone has an average taxable income of $60,000 a year in retirement including their RRIF withdrawal. Their average tax rate in Ontario would be 18.4 per cent. If they had $250,000 in a RRIF when they die and another $40,000 of income in the final year, they will have an average tax bill on that large amount of 40.5 per cent, which will include a portion of the income taxed at 53.5 per cent.
Using a different example, and using a marginal tax perspective, let’s say someone drew out $15,000 a year at a 29.65-per-cent marginal tax rate for 18 years. The total withdrawal would be $270,000 and the taxes would be $80,055. If, instead, they drew out nothing for 18 years but upon death they had $540,000 of RRIF assets (due to growth and tax sheltering), they are taxed at an average rate of 46.53 per cent (assuming no other income) and about 60 per cent of the amount would be taxed at 53.5 per cent. Using the average rate, the tax bill would be $251,262.
Looking at this from the government’s side, it benefits from a potentially much higher amount of tax collection and gets a big political win from seniors who would appreciate the freedom and flexibility on their RRIF assets. But it would be hurt by collecting a lower tax amount in the short term, until the larger tax bills start to come in over time, and it would pay out a little more Old Age Security (OAS) to those who currently might be clawed back because their income is too high.
Of interest, only about five per cent of seniors are clawed back today and only two per cent lose the entire amount, according to a report from the former Human Resources Development Canada. Some of the five per cent of people would still be clawed back even without RRIF income because their overall income is too high. This shouldn’t be much of an issue for government since it could easily adjust the income numbers for clawbacks in order to not pay out more OAS under a “Freedom of RRIF Withdrawal” scenario.
On the other side, a typical Canadian senior would benefit from the flexibility to manage RRIF withdrawals as they see fit and in a way that may minimize their year-to-year tax bills, the ability to have more tax-sheltered earnings and their funds can grow faster without the near-term tax bills, the possibility of collecting more OAS and feeling more in control over their own money.
They would be hurt by a likely higher lifetime tax bill if they delay too much in drawing out their RRIF until death, and possibly spending less on themselves while they can, in order to lower tax bills.
It is not often that a new rule can be implemented that would be cheered by the electorate and likely lead to higher taxes in the long run. Eliminating RRIF withdrawals minimums could be one of those rare cases.
Reproduced from the National Post newspaper article 28th August 2019.
Old Age Security (OAS) is a funny part of Canadian retirement planning.
Many Canadians assume they won’t receive it, or even if they do, they believe it won’t last many more years.
The truth of the matter is that for a couple, it can generate as little as $0 or as much as $19,600 a year if you receive full OAS and delay receiving it until you both turn 70.
The basics on the OAS are as follows. You will qualify for a full OAS:
1. If you have lived in Canada for at least 40 years after the age of 18. You will receive partial OAS if you have lived in Canada at least 10 years after age 18.
2. If your taxable income (your net income on line 236 of your tax return) is under $77,580 in 2019. For every dollar above this amount, you will lose 15 cents of OAS up to roughly $125,000, at which point your OAS will be fully clawed back.
3. If you delay receiving your OAS from 65 to age 70, you will receive 36 per cent more or a maximum of $9,815 a year.
There are some people with so much wealth from pensions, investment income or minimum RRIF withdrawals that they are far past the $125,000 a year in income and will simply not receive OAS. Having said that, there might still be some strategies to help.
On the other hand, there are many Canadians whose income in retirement will not be close to $77,000 and who will always receive full OAS benefits.
If we start with the premise that you want to receive the most OAS possible, then you will be deferring OAS to age 70. This may or may not be the right decision for you. In general, it is the right decision if you are in good health and believe that you (and likely both of you if you are a couple) will live past age 85 and do not have immediate cash-flow requirements for OAS funds.
The risk is that if one person in a couple takes deferred OAS and the other passes away younger, the survivor is no longer able to split income and depending on their assets, that survivor may now have OAS clawed back, even on the larger deferred amount.
(As a sidenote, the CPP is a better deal as far as deferral past age 65 is concerned. If you defer CPP to age 70, it grows 42 per cent as compared to the 36 per cent growth of a deferred OAS.)
Getting back to the “How do I get the most” question, it is certainly easier if you are a couple as opposed to being single. The five best ways to maximize OAS would be:
First, split income as much as possible in order to ideally keep both individuals’ net incomes under $77,000. If you are able to fully split income, this means your household income could be $154,000, and you would still qualify for full OAS.
Second, use all tax deductions possible to lower taxable income. This includes making RRSP contributions if you have room. One trick is that even if you are over 71, you can possibly make a contribution to the younger spouse’s spousal RSP account if they are under that age. Where possible, be sure to deduct interest income on loans and investment expenses (when investing with an investment counsellor or in a fee-based taxable account). These deductions will not only lower your taxes, but if you are in the OAS clawback zone, they will add 15 cents of OAS for every dollar deducted.
Third, when drawing investment funds to cover your cashflow, consider drawing TFSA or non-registered assets which will not incur any taxable income, rather than drawing extra funds from your RSP, RRIF or corporate account.
Fourth, lower your taxable investment income. If you have taxable investments (non-registered accounts), be sure and focus on tax efficiency in this account. This would probably mean a focus on ETFs and stocks that do not have any or small dividend distributions, meaning a focus on growth stocks. Some ETFs now are structured not to distribute income for this purpose. There are still some REITs that do generate decent yields, but the yields are structured mostly as return of capital. One last thought is to either gift some of these assets to adult children if you won’t need them in your lifetime, or invest them in an insurance policy that will likely have a much higher after-tax return for your estate. If you don’t have the taxable assets in your hands, you will have a lower income.
Fifth, shift income earlier. If you are under 65 or if you are planning on deferring OAS, this would apply up to age 70. You may want to draw funds from your RRSP in the years before that income will qualify toward an OAS clawback. For example, rather than draw CPP and OAS at age 65, you could defer it five years, and in that time draw from your RRSP instead. This will allow you to have a lower RRIF minimum in later years, and possibly help to maintain full OAS at that time. There may also be capital gains on a second property or other unrealized investment gains that you might want to claim in a year prior to it affecting OAS clawbacks.
It is important to keep in mind that these strategies will all be beneficial to maximizing OAS, but still may not be the right strategy overall for you. What is interesting is that all of these strategies to lower taxable income can still apply to you regardless of the OAS strategy.
As you deal with retirement income planning in your late 50s and 60s, these tax and benefit strategies and ideas could easily add $100,000+ to your long term assets. Now is the time to think about them and to take the appropriate action for your personal situation.
Reproduced from the National Post newspaper article 30th April 2019.
In RRSP season there is a lot of focus on your RRSP — surprise, surprise.
As most of you know, the RRSP will ultimately turn into a RRIF and be a key source of your income in retirement. What many people don’t always think about is other potential sources of retirement income.
In our work with retirees, we see up to eight different sources of funds that they can pull from to meet their monthly or annual expenses. Some are not thought of that often, but can become important. Not all will apply to everyone, but each one will be important to a segment of retirees.
Without further ado, here are the eight sources of retirement income:
1. Government Pensions — CPP, Old Age Security (OAS), GIS. For some individuals this can be more than $18,000 a year. It can be even higher if delayed receiving until past age 65.
2. Your Investment Portfolios — RRSPs, RRIFs, TFSAs, Defined Contribution Plans and Non-Registered accounts. The key is to determine which ones to draw on and when to minimize taxes. It will be different depending on your age, your health, your relationship status, and your current and expected level of income.
3. Your Defined Benefit Pension Plan — You may be one of those who have a plan through your work that pays you a fixed monthly amount — that may or may not increase based on inflation.
4. Your Corporate Investment Account — If you have a Corporation, pulling money from here will likely be considered as ineligible dividend income, but could possibly be tax free due to the size of your capital dividend account or shareholder loans. Often there is an opportunity to use insurance for estate planning or even in some cases for Retirement Planning where funds can come out tax free.
5. Annuities — These are essentially lifetime GICs with a locked-in rate that becomes a monthly source of cash flow. They have been less popular due to low interest rates, but for those who bought Annuities thirty years ago and are still alive, they will definitely sing their praises as an option for retirement income.
6. Your Home — If you own a home you can use a Home Equity Line of Credit to draw down cash over time, or maybe a downsize or sale of real estate is a key source of funds for your retirement. In some cases it may even allow for rental income.
7. Insurance Policies — This is sometimes an option and usually a forgotten one. Policy holders can often access cash through the cash surrender value of a policy without hurting the core insurance coverage. Sometimes you can borrow against the policy, or for those in their 30s to 50s, you might even be able to take out a policy on your parents as a form of retirement planning.
8. Your Kids (or other family) — This is usually not a preferred option, but depending on your needs and the family situation, this can be an important source of income.
Behind each of these sources of income is often a fair bit of thought and planning to maximize the income in a tax efficient way. For example, some individuals want less income in retirement. They don’t need the cash flow and they want lower taxes. In that case, they may look to fund Insurance policies in order to lower annual income and increase the estate.
Another scenario is the person with a large RRSP who is in their late 50s or early 60s. A lot of thought might go into the idea of drawing down the RRSP meaningfully over the next 10 years, and delaying taking CPP and OAS until age 70. If they do this effectively, they may be able to receive full OAS instead of getting clawed back, and in addition, they will have a smaller RRIF balance when they die and will face less tax at the end.
Even your home has important retirement income questions. We see people who received full OAS for several years, and then they sold their home and decided to rent. They now have significantly more investment assets and taxable income than they did before selling the house. Suddenly their tax rate goes up and they lose their OAS. In these cases, much more effort needs to go into tax efficient investment, and possibly gifting some assets to family or charity earlier than through the estate.
To help with issues of Retirement Income I have seen a few great Canadian web tools.
The Government of Canada has a solid tool to help manage your Government Pensions.
A website called Savvy New Canadians has a fairly detailed overview of RRSPs, TFSAs, CPP and OAS.
And my firm TriDelta Financial recently put out the 2019 Canadian Retirement Income Guide which provides further insight into how best to manage your various forms of retirement income.
Just like the game of hockey is much more complicated than simply shooting at the net, remember that your retirement income is about much more than simply an RRSP or RRIF. There are hopefully many sources of income for you, but the more sources of income, the more complex some of the tax and planning issues become.
May your biggest challenge be figuring out income sources number one to seven, and not about how to ask for funds from number eight.
Reproduced from the National Post newspaper article 4th February 2019.
The stores are filled with Xmas themed shopping and the end of the 2013 year will soon be upon us. During this season of family and friends, we need to find time to address the end of year tax and investments action list. Some things to remember at this time:
Full Service financial firms such as Tridelta Financial Planning will include the above and other year-end strategies in their total service package to increase the efficiencies of your financial plan. Having all of your investments managed by one full-service financial planner will also better enable them to maximize your opportunities for these strategies.
