Part II – RRSP Turns 60: Still a Good Bet for Retirement

Registered Retirement Savings Plans (RRSPs) were first introduced 60 years ago, created by the federal government to help people who didn’t have a work pension to save for retirement by socking away pre-tax money.

In 1957, the threshold for the RRSP was the lesser of 10 per cent of income or $2,500.  Over the years the threshold methodology has changed.  Over the years, the threshold methodology has changed. Since 1991, the income threshold of 18 per cent of income has been used.

Starting in 1996, and continuing to today, the new contribution ceilings were indexed to the rise in average wages.

For 2017, the annual maximum, or contribution ceiling, is $26,010, which is reached when earned income is at $144,500 for the prior year.  After you file your 2016 tax return, the government communicates to taxpayers their 2017 RRSP contribution limit on the Notice of Assessment.

The calculation for the RRSP contributions limit is adjusted for individuals who have a work pension.   This reduction is referred to as a pension adjustment and also shows up on your Notice of Assessment.

A pension adjustment is done for both Defined Benefit Plans, where employers bear the risk of market-value changes, and Defined Contribution Plans, where employees bear the risk.

Pension plans have been deteriorating over the last decade.  Individuals who either do not have a pension through work, or do not have a good quality pension, should consider having an RRSP.

Outside of the two types of pensions, some employers will offer a program to help build up your RRSP, or other accounts.  In some cases, these are matching type programs, where you can put in a certain percentage of your salary, and your employer will match it, up to a defined threshold.  These are often referred to as a group RRSP and it is worth participating in.

If you have an RRSP program at work, then having that one is a must.  As you are typically restricted by the types of investments you can invest in with a group plan, we encourage people to also have one external RRSP account.

The external RRSP account would hold all the contributions done outside of your group plan.  In some cases, individuals can transfer funds from a group RRSP to an external RRSP.  In other cases, the funds must stay in a group RRSP until you cease employment with the sponsoring company.

You should receive a statement for any company sponsored pension.  Reviewing this statement is especially important if your plan is a Defined Contribution Plan where you had to make investment choices.

You have made decisions to determine the percentage to invest in fixed income versus equity and whether to have Canadian equities versus foreign equities.

If you have a group RRSP plan, you likely can view information electronically and also receive statements more frequently.

All of this information should be provided to your financial advisor, prior to making any financial decisions regarding your external RRSP.

As the quality of pension plans has deteriorated, the methodology of how to invest funds within an RRSP has changed for some investors.  The three broad categories are cash equivalents, fixed income, and equities.

In 1957, a 90 day treasury bill (cash equivalents) could be purchased with an interest rate of 3.78 per cent, climbing to 17.78 per cent in 1981.

Investing RRSPs in conservative investments, such as cash equivalents, provided decent enough returns during this period.  The latest T-Bill auction of 2016 had the 90 day treasury bills paying a yield of 0.50 per cent.   Most would agree that putting the investments within your RRSP into cash equivalents would not provide the returns to keep pace with inflation, especially after tax is factored in.

Bonds are a type of investment that is classified within fixed income.   The reason most investors purchase bonds is for capital preservation and income.  In order to achieve the goal of capital preservation, it is advisable to invest in investment-grade bonds.  Yields on these bonds are at historic lows.  The yield curve is also very flat, so purchasing a longer term investment grade bond does not increase the yield significantly enough to warrant the potential risk if interest rates rise.   The primary reason to hold bonds in an RRSP portfolio today is capital preservation.

Equity investments provide both growth and income.  In fact, the right types of common shares can pay dividend income that exceeds the interest income on most investment-grade bonds.  Portfolio values will fluctuate greater as the equity portion increases.

An advisor can put together a portfolio of lower risk stocks, often referred to as “low beta” that can reduce this volatility.  We feel those who tolerate increased volatility will be rewarded in the long run by holding the right equity investments.

Kevin Greenard CPA CA FMA CFP CIM is a Portfolio Manager and Director, Wealth Management with The Greenard Group at Scotia Wealth Management in Victoria.  His column appears every week in the TC.  Call 250.389.2138. greenardgroup.com 

This is for information purposes only. It is recommended that individuals consult with their financial advisor before acting on any information contained in this article.  The opinions stated are those of the author and not necessarily those of Scotia Capital Inc. or The Bank of Nova Scotia. ScotiaMcLeod is a division of Scotia Capital Inc., Member Canadian Investor Protection Fund.

Part II – Real Estate: Mandatory to Report Sale of Principal Residence

In our last column we talked about the tax benefits for Canadians owning a principal residence. One of the positve parts about selling a principal residence in the past was that you didn’t even have to let Canada Revenue Agency know you sold it.

 

That is about to change.

 

On October 3, 2016, the Government announced that the Canada Revenue Agency now has a new reporting requirement for the sale of a principal residence. Starting with the 2016 tax year, individuals will be required to report basic information about the sale.   This new rule will require individuals who sell a home at any time during 2016 to report the disposition in their 2016 tax return.

 

The reporting of the sale will be done on Schedule 3 of your tax return. CRA will modify this form for the 2016 tax year.  It is anticipated that you will be required to report the date of acquisition, proceeds of disposition, and description of the property.

 

If the disposition is not reported to CRA, it will not be bound by the normal three-year limitation period for reassessing the disposition. The reassessment period for unreported dispositions will be extended indefinitely, regardless of whether the taxpayer’s failure to report the disposition was innocent or not. Prior to this change, the CRA could only reassess beyond the normal three year limitation period where the CRA could prove carelessness, negligence, willful default or fraud in failing to report the disposition.

 

Listed on the Canada Revenue Agency website, a property qualifies as your principal residence for any year it meets all of the following four conditions:

  • It is a housing unit, a leasehold interest in a housing unit, or a share of the capital stock of a co-operative housing corporation you acquire only to get the right to inhabit a housing unit owned by that corporation.
  • You own the property alone or jointly with another person.
  • You, your current or former spouse or common-law partner, or any of your children lived in it at some time during the year.
  • You designate the property as your principal residence.

 

The actual rules with respect to the disposition of your principal residence have not changed other than the disclosure component. CRA has been increasingly focused on those non-compliant with the rules.

 

In British Columbia, the CRA doubled their efforts on auditing the real estate sector in 2015 and they have started a review of 500 high dollar value real estate transactions in this province.

 

The end goal for CRA is likely to uncover any unreported tax issues.   With computers, real estate information obtained from third parties can more easily be used in their risk-assessment tools, and analytical work.

 

It always amazed me over the years that CRA focused on the reporting of investment income on dividends, interest, and other income as it was mandatory that those amounts were recorded on a tax slip such as a T3 or T5.

 

For most of the years that I have been a Wealth Advisor, CRA did not have a mechanism to monitor the actual disposition of stocks in taxable accounts.

 

As Wealth Advisors we would send a realized gain (loss) report to clients which they would report in part 3 of Schedule 3. If clients failed to report this, CRA had no mechanism linked to a third party to monitor for non-compliance.  It is not until recent years that CRA has required financial firms to report the capital disposition of securities in taxable accounts to CRA. CRA now has a mechanism to monitor for non-compliance for sale of publicly trades shares, mutual fund units and the like.

 

Of course, the process of non-compliance is not black and white. A simple example is CRA targeting the short holding periods (the home may not qualify as capital property, a condition of being a principal residence), a house that was not ordinarily inhabited in each year of ownership by the vendor (another condition to qualifying as principal residence), or builders who build, then occupy, a house before selling (these would be considered inventory and not a capital property).

 

No doubt this change will result in many more audits and reassessments to deny the principal residence exemption.   Careful attention should be paid by trustees and executors to obtain a clearance certificates prior to distributing estates where there has been a recent home sale where the principal residence exemption could be questioned.

Kevin Greenard CPA CA FMA CFP CIM is a Portfolio Manager and Director, Wealth Management with The Greenard Group at Scotia Wealth Management in Victoria. His column appears every week in the TC.  Call 250.389.2138. greenardgroup.com 

This is for information purposes only. It is recommended that individuals consult with their financial advisor before acting on any information contained in this article. The opinions stated are those of the author and not necessarily those of Scotia Capital Inc. or The Bank of Nova Scotia. ScotiaMcLeod is a division of Scotia Capital Inc., Member Canadian Investor Protection Fund.

A proactive advisor can cut your taxes

Clients are often unaware of investment alternatives, credits, loss-recovery options

I ask every new client to sign a Canada Revenue Agency (CRA) form T1013 – Authorizing or Cancelling a Representative. This authorizes CRA to release tax related information to me, referred to as a “representative.” It is an invaluable tax tool to proactively help clients.

Canada Revenue Agency’s website (cra-arc.gc.ca) is a great resource for general information.   On this website, representatives can access their client’s tax information. When I have clients sign the T1013, I request Level 1 authorization which enables me to view information only. There is no ability to make changes. The most obvious benefit for clients in signing the T1013 is that they no longer have to bring in a copy of their annual tax returns and applicable notices of assessments. This information is available online. I use it for a variety of purposes, primarily to give proactive advice to save tax dollars. Here are a few situations clients have encountered to which I was able to provide solutions as a result of having the T1013 on file.

Situation 1: In examining Mr. Red’s tax return, we noted he had to pay $456 in interest and penalties to CRA for not making his quarterly instalments on time.

Solution: We brought this to Mr. Red’s attention and provided automatic solutions that could help him. The first was that we could begin withholding tax on his RRIF payments. The second was that we could contact Service Canada and request that withholding tax be taken on CPP and/or OAS payments. A manual option was that we could make his quarterly instalment payments to CRA for him directly from his non-registered investment account.

Situation 2:   Mrs. Brown is a new client who transferred in a non-registered investment account. During our initial conversations, she said she prepares her own tax return. My evaluation of her past returns showed there was no carry-forward information for realized gains or losses on her investments. I confirmed that she had sold many investments over the years, but had not recorded these on her tax return.  

Solution: I explained that all dispositions in a taxable account must be manually reported on Schedule 3 (no tax slip is issued for this). We assisted her in obtaining previous annual trading summaries to calculate the numbers needed to adjust her previous tax returns.

Situation 3: Mr. Black has been contributing to his RRSP for many years. In the last year, his income dropped substantially and he was comfortably in the first marginal tax bracket. Mr. Black said he projected that his income would continue at the current level or decline as he approaches retirement.              

Solution: It no longer made sense for Mr. Black to continue to contribute to his RRSP account. His savings should be directed to a Tax Free Savings Account.

Situation 4: Mr. Orange received penalties for over-contributing to his TFSA accounts. In our first meeting, he explained that he had several TFSA accounts and had lost track of his withdrawals and contributions.

Solution: We outlined the rules with respect to TFSA accounts and any replenishment for a previous withdrawal must occur in the next calendar year. I also had him sign the T1013 form. I printed out all of his TFSA contributions and withdrawals from the online service. I recommended that he consolidate his TFSA accounts. I also provided copies of the CRA reports, including a report which shows his current year contribution limit.

Situation 5: Mrs. Yellow has been a long time client whose health has deteriorated over the years. In reviewing her tax returns, I noted that he was not claiming the disability tax credit.

Solution: I provided her with a copy of the Disability Tax Credit form T2201. I advised her to bring this to her doctor to have the form signed and submitted. A few months later, Mrs. Yellow received a letter back from CRA with their approval for her application. They also approved backdating her eligibility to 2009. In assisting Mrs. Yellow and her accountant with the T1-Adjustment form, we projected that she would receive a tax refund of $12,490. From now on, Mrs. Yellow will be able to claim the disability tax credit every year, resulting in significant tax savings.

Situation 6: Mr. White has, in the last few years, completed his own tax return using Turbo Tax. He has correctly reported the taxable capital gains on line 127 of his tax return during this period. Unfortunately, Mr. White did not initially key in his loss carry-forward information. Many years ago, Mr. White had a significant net capital loss on a real estate investment, and was not aware that he could apply his net capital losses to reduce his taxable capital gains on the stock sells.  

Solution:   I arranged a meeting with Mr. White and explained to him the importance of keying in the carry-forward amounts when starting to use Turbo Tax. I also showed him how he can use a T1-Adj form to request CRA change line 253 – Net capital losses of other years. Mr. White had to submit four T1-Adj for each year he missed applying his net capital losses. Combined Mr. White received a refund of $47,024 after all reassessments.

Situation 7: Mrs. Green has recently transferred her investments to us. We noted a few investments with significant losses that she has held in her account for many years.   There is little hope that these investments will recover in value. In reviewing Mrs. Green’s online account with CRA, I looked up all of her previously reported taxable capital gains and net capital losses. In this analysis, I noted she had substantial taxable capital gains three years ago that brought her income into the top marginal tax bracket.   Net capital losses can only be carried back up to three years. Mrs. Green was unaware net capital losses could only be carried back up to three years.

Solution: I recommended that Mrs. Green sell most of her investments that were in an unrealized loss situation. By selling these she triggered the tax situation and created the net capital loss. I printed off the T1A – Request for Loss Carryback form and explained to Mrs. Green how the form works. Mrs. Green was able to recover $29,842 after CRA carried the loss back and reassessed her tax return from three year ago.

Situation 8: Mr. Blue had stopped working at the age of 62, but his spouse was continuing to work a few more years. In looking at his CRA online reports, I noted he was collecting CPP and that this represented most of his income, which was below the basic exemption.  He had not thought about taking money out of his RRSP early as Mrs. Blue was continuing to work and they had enough money flowing in from her income and in the bank to take care of the bills. Mr. Blue had a sizeable RRSP account and Mrs. Blue will have a good pension when she retires that can be shared.

Solution: I explained to Mr. Blue that when he starts collecting OAS, pension splitting with his spouse, and having to withdrawal from his RRIF that his taxable income will increase significantly. We recommended that he convert a portion of his RRSP to a RRIF and begin taking income out on an annual basis immediately. We mapped out a plan to keep his taxable income around $35,000. With these early withdrawals, our projections would keep both Mr. and Mrs. Blue in the top end of the first marginal tax brackets throughout retirement.

Situation 9:   Mrs. Purple is extremely busy with work and has a great income. It is definitely advisable for Mrs. Purple to maximize her contributions to her Registered Retirement Savings Plan (RRSP). Unfortunately, Mrs. Purple never seems to find the time to photo copy her notice of assessment and provide this to her advisor. She was frustrated that last year, she missed contributing to her RRSP because her advisor did not phone.

Solution:   When Mrs. Purple came to see me I explained the benefits of the T1013 form. One of the main benefits is that I can go on-line and instantly obtain her RRSP contribution limits and unused portions for the current year.   I proactively contact each applicable client and advise them of their limits and recommended contribution level based on projections of current and future income levels.

Financial tips for blended families

Opening the communication channels is key when helping couples in blended family situations.   This communication should absolutely start on Day 1 for blended families, and should be part of the account opening process. A good advisor will ask probing questions beyond the checklist of mandatory questions to first open an account.  

With new blended families, it is not always easy to have open communication with both parties. Often, they have different advisors and different financial institutions.   If this is the case, then it is common for the couple to maintain the status quo with their separate finances.   I always encourage couples in blended families to come in together, even when they are maintaining separate finances. Once this happens, and once there is open discussion and communication, then progress can be made on a variety of financial decisions.

Often there is a disparity between the value of assets, or net worth, of each party. Rarely are the assets equal. One party may have more equity in real estate, while the other has more stock and bond investments.  

Making objective financial decisions can be challenged by the simple notion that “blood is thicker than water.”   For example, many parents want to provide for their children from a previous marriage. However, this can conflict with the many tax benefits provided for married or common-law relationships. This conflict is especially challenging when it comes to estate planning. Below I have listed a few common assets and basic challenges couples in blended families may face.

Non-Registered Account:  The term taxable account or non-registered can be used inter-changeably. Often young people do not have non-registered accounts as they are busy paying off mortgages and/or contributing to their registered accounts, such as RRSPs.   Older couples with adult children are more likely to have taxable accounts when they enter a blended family.   When a person has non-registered investments just in their name, this is called an Individual Account.   The monthly statements and confirmation slips have just the one person’s name on it, and the year-end tax slips (i.e. T5 and T3 slips) are in same one individual’s name.  

Couples in a first marriage, and who have built up equity together, will open up a taxable account called Joint With Right of Survivorship (JTWROS). This type of account has many benefits for couples, including income-splitting. The primary benefits of these joint accounts are probate is avoided, income tax continues to be deferred, such as for unrealized capital gains, and simplicity of paperwork after the first spouse passes away.  

Some couples have two JTRWOS with each person being primary on their own respective account. By primary I mean their name is first on the account and their social insurance number is on all tax slips. This enables couples to still keep funds separate, but it will still provide the same above benefits.

Tenants in Common:  Another option for taxable accounts is Tenants In Common. With Tenants in Common a taxable account is set up with two or more owners, where the ownership percentages do not have to be equal. Upon the passing of any owner, their portion represents part of their estate, and the other owners do not have the right of survivorship.   Many of the benefits of JTWROS are lost with Tenants In Common, but for some couples this may be the right decision. A couple that would like to combine their assets to pay household bills, could simply allocate the ownership based on the amount originally contributed. If Spouse ”A” puts in $300,000, and Spouse “B” puts in $700,000 then the allocation for ownership could be 30 per cent for Spouse A and 70 per cent for Spouse B.   If either spouse passes away, their Will would dictate how their proportionate share is divided.  

Registered Accounts:  The two most common types of registered accounts are Registered Retirement Savings Plans (RRSP) and Tax Free Savings Accounts (TFSA). RRSP and TFSA accounts can only be in one person’s name.  

However, with both of these types of accounts you are able to name a beneficiary. With couples in a first marriage and building equity together, your spouse is likely always named the beneficiary on registered accounts.   At the time of death, Canada Revenue Agency allows the owner of an RRSP (called an annuitant) to transfer their RRSP to their surviving spouse or common-law partner, on a tax-deferred basis. If there are financially dependent children because of physical or mental impairments, then it also may be possible to transfer the annuitant’s RRSP on a tax-deferred basis. Outside of these two situations, the annuitant’s RRSP is fully taxable in the year of death.

A person who has a spouse, and chooses to name an adult child the beneficiary should understand the tax consequences. If you name your spouse the beneficiary, your spouse receives 100 per cent of the value until the funds are pulled out gradually (taxed when taken out). If you name someone other than a spouse, the funds are deemed taxable in one large lump sum, so the marginal tax bracket of 45.8 per cent could easily be reached. Many people would cringe if they could see the amount of tax paid to CRA from RRSP accounts resulting from a lack of planning.  

Although the TFSA has no immediate tax issues on death, there are still some benefits to naming your spouse or common-law partner the beneficiary.   As an example, let’s look at a blended family with Spouses C and D. Spouse C has $48,000 in a TFSA and Spouse D Has $52,000.

Spouse C has the option of naming the Estate the beneficiary, naming Spouse D the beneficiary, or naming another individual such as a child or children from a previous marriage. If Spouse C names the Estate the beneficiary, then the account would likely have to be probated to validate the Will. The Will would provide us direction as to who the beneficiary of the TFSA will be. If Spouse C named Spouse D the beneficiary, then we can roll over the entire $48,000 into Spouse D’s TFSA account (without using contribution room). After the roll over, Spouse D would have a TFSA valued at $100,000 – all of which is fully tax sheltered. The roll over can be done once we receive a copy of the death certificate – and no probate is required for the transfer of assets. The only time individuals are permitted to put more into their TFSA accounts, other than their standard annual limits and replenishing amounts withdrawn in an earlier year, is when their spouse or common–law partner passes away and they are named the beneficiary.

If Spouse C named the children from the first marriage the beneficiary, then Spouse D does not get the additional room and the children could receive the funds but would not be able to roll this amount into their own respective TFSA accounts without using their available room.  

While there are many solutions available for blended families, it is important to talk about these options and then document the plan.   Gathering all the information and creating a plan that both parties are content with can take some time. A plan should include all standard types of assets such as personal residence and vehicles, as well as liabilities. One of my most rewarding moments as a Portfolio Manager is assisting my clients with their plan. A plan ultimately provides peace of mind for clients in what is often viewed as a complex situation that was either too sensitive to talk about or simply not addressed.

Research ETFs before you buy

Exchange Traded Funds (ETFs) have become one of the fastest-growing areas of the financial market.   “Index Shares” is another similar term and many advisors use these terms inter-changeably.  Investors can participate in a broad variety of investment opportunities using ETFs. 

The original ETFs differed from traditional actively managed mutual funds as these are passive products.  For example, an investor could purchase an ETF of a well-known index such as the S&P 500 which holds the largest 500 U.S. public issuers. 

As their popularity has grown, so has the number of ETFs being created.  Some companies are creating a hybrid product with relatively low fees and some active management.  The water is getting a little murkier as new features are being added to these new products, so I caution investors to understand before they buy.

One reason for the growth in ETFs is the relatively low cost and transparency of the fees.  Investors do not want to be burdened with the cost of high fees, especially if these are hidden or embedded.   The management fee for the S&P 500 is 0.14 per cent through iShares by BlackRock (TSX symbol: XUS), and 0.15 per cent through Vanguard (TSX symbol: VFV).  These are just two symbols that track this common Index.  Other ETF examples trade directly on US exchanges and some that are currency hedged.  You should have full understanding of the tax component, risks and features before purchasing.

The annual cost of an actively managed mutual fund is significantly more than an ETF.  Mutual funds have a Management Expense Ratio (MER) that is embedded.  New regulations and rules are coming soon that will require full disclosure of all fees.  Trading costs are in addition to the normally published MER.  A passive ETF would have very little trading.  Like all services, fees are really only an issue in the absence of value. If an actively managed mutual fund is consistently performing better than an ETF, then the MER and trading costs may be fully warranted.

Some advisors may not recommend ETFs for a few different reasons.  It could be that an advisor only has a mutual fund licence and they are not permitted to discuss or provide ETFs as an option.  Mutual funds can be sold on a no-load, front-end (initial service charge) or a back-end (deferred service charge) basis. We recommend that investors ask their advisor what the initial commissions are, the ongoing trailing commissions, and the cost to sell the mutual fund investment.  Understanding the total cost of choosing an investment option should be done prior to purchase.

ETFs are very much an option that can complement a fee-based account.  Both cost structures are low and provide complete transparency.  ETFs are listed, and trade, on exchanges similar to stocks.  For transactional accounts, there is a cost to purchase an ETF, and a cost to sell them.  For fee-based accounts, there are no transaction costs to purchase or sell an ETF, however, the market value of the amount purchased would be factored into calculating your fees.

When a new client transfers in investments traded on an exchange, it is always easy to make changes.  Investors who have purchased proprietary mutual funds or mutual funds purchased on a low load or deferred sales charge may have fewer options.  In most cases, proprietary funds cannot be transferred in-kind and a redemption charge may apply to transfer in cash.  For example, say Jack Jones has $846,000 in a basket of mutual funds in his corporate investment account.  Jack is paying 2.37 per cent (or $20,050) annually in MERs to own his mutual funds.  I mapped out a lower-cost option for Jack that would decrease his cost of investing, to one per cent ($8,460).  The approach to investing involves a fee-based account with a combination of direct holdings and ETFs.  Annually, Jack would save $11,590 and have full transparency and liquidity.

ETFs can be used strategically to obtain exposure to various types of asset classes, sectors, and geographies.   Although the cost is lower, they are not immune to declines when markets get shaky.  An advisor can design a portfolio of positions that are lower risk then the market.  This is tougher to achieve with off-the-shelf  ETFs. 

Although the traditional ETF is a passive approach, we still feel that an advisor can provide advice with respect to the active selection of the ETF, tax differences, hedging options and more.   To illustrate using bond/fixed income ETFs, an investor could choose amongst many different types depending on the current environment (i.e. interest rate outlook, current economic conditions). 

An advisor can provide guidance on whether to underweight or overweight government bonds or corporate bonds and provide guidance on whether you have a short term, long term, or laddered bond strategy.  Based on your risk tolerance, should you stick to investment grade bonds or seek out greater returns with high yield bonds.  An advisor can explain some of the more complex fixed income ETFs including those holding real return bonds, floating bonds, or emerging market bonds.   An advisor can provide recommendations with respect to actively switching between these passive ETFs.

 

Benefits to early conversion of RRSP to RRIF

The Registered Retirement Savings Plan (RRSP) is for “saving.”   This savings and tax deferral within an RRSP can continue until the age of 71.  In the year you turn 71, you have to either close your RRSP by either taking the money out, purchasing an annuity or transferring it to a Registered Retirement Income Fund (RRIF). 

From a taxation standpoint, it is rarely advised to de-register 100 per cent of your RRSP in one year and withdrawal the cash.  This would only be advised when an RRSP is very small or there is a shortened life expectancy or financial hardship.   Purchasing an annuity as an RRSP maturity option is a final decision that can not be reversed.  Upon your death, the annuity option often leaves nothing for your estate or beneficiaries.  

For many reasons, conversion of your RRSP to a RRIF is the most popular and flexible method.  Most of your savings will continue to be tax deferred with a minimum withdrawal amount being determined annually based on the previous December 31 value.  In the year a RRIF is set up, there is no minimum withdrawal amount.   All RRIF’s set up after 1992 are considered non-qualifying.  The following minimum RRIF withdrawal amounts are the non-qualifying annual percentage by age on December 31st: 

Age                 Per Cent        

72                    7.48    

73                    7.59

74                    7.71

75                    7.85

76                    7.99

77                    8.15

78                    8.33

79                    8.53

80                    8.75

81                    8.99

82                    9.27

84                    9.93

85                    10.33

86                    10.79

87                    11.33

88                    11.96

89                    12.71

90                    13.62

91                    14.73

92                    16.12

93                    17.92

94 or older      20.00

To illustrate how the above schedule works, we will use 71-year-old Barry Campbell who has saved $1million in his RRSP.  Barry is single and he chose to convert his RRSP to a RRIF account in the year he turned 71 and he will begin taking annual payments next year.  Barry has had years of complete deferral but this is coming to an end.  Based on the above minimum RRIF schedule, Barry will be required to withdraw $74,800 ($1 million x 7.48 per cent) and have this amount included in his taxable income.   Unfortunately, Barry doesn’t have a choice at age 71.  Based on Barry’s total income with the RRIF, he is projected to have half of his old age security clawed back (required repayment) based on his high income.  If Barry were to pass away, the majority of the RRIF would be taxed at 45.8 per cent.  Unfortunately, Canada Revenue Agency (CRA) would receive nearly half of Barry’s lifetime savings within his RRIF.   

We feel it is important for clients to understand the taxation of a RRIF in a most likely scenario of normal life expectancy and shortened life expectancy.   RRIF accounts for couples greatly reduce the taxation risk of shortened life expectancy by being able to name your spouse the beneficiary and avoid immediate taxation of the full account balance.  In 2007, CRA introduced pension-splitting, which provides taxation savings for most couples with eligible pension income. RRIF withdrawals at age 65 or higher are considered eligible. 

Beginning in 2009, CRA introduced the Tax Free Savings Account (TFSA) that provides tax savings for individuals and couples.  The savings is a result of all income (interest, dividends, and capital gains) generated within the TFSA not being taxed ever.  There is no taxation upon your death.  The amount that can be put into a TFSA is limited by a relatively small amount each year. People who are serious about saving for retirement often contribute to both an RRSP and TFSA.

Given the introduction of pension splitting and the TFSA, many people should be looking at converting their RRSP to a RRIF before the age of 71.  When we are helping clients with the optimal time to convert their RRSP, we look at their marital status, health/genetics, and other investments.  With other investments, we create two baskets (A and B) to analyse what we call the “bulge.”  A bulge is when you have too much concentration in either basket A or B.  Basket A is the total amount in your RRSP accounts.   Basket B would include bank account balances, non-registered investments, and your TFSA – none of which will attract tax on the underlying equity if used.  Basket A may also include your principal residence if the intention is that this will be sold and the capital used to fund retirement.  

We caution investors not to create a bulge – having too much in either basket means you may not have the right balance as you enter retirement.  Taking advantage of deferral opportunities over time often makes sense.  Having too much in basket A means you may have very little flexibility if an emergency arises and you need cash (new roof, vehicle).   If A / (A + B) is greater than 75 per cent (a bulge) then we would recommend you speak with an advisor to determine in you should convert your RRSP to a RRIF early.  Above, we noted Barry has $1 million in basket A.   Barry also has $250,000 in basket B.  With these numbers Barry has a bulge percentage of 80 per cent. 

A financial plan prepared while you’re working largely results in savings strategies to reach your retirement and other goals.  In retirement, a financial plan is prepared to create withdrawal strategies that are tax efficient and smooth out your income during your lifetime.  They can also be prepared in conjunction with estate planning.   

Kevin Greenard CA FMA CFP CIM is an Associate Portfolio Manager and Associate Director with The Greenard Group at ScotiaMcLeod in Victoria.  His column appears every second week in the TC.  Call 250-389-2138.