Whether you're a pensioner, retiree, or pre-retiree, it's never too early to begin preparing your taxes and take full advantage of the deductions available to you. In addition to contributing to a Registered Retired Savings Plan (RRSP), the following are other means in preparing for retirement.
There may be an opportunity to income-split with your spouse through contributions to a spousal RRSP, or through pension income splitting.
A spousal RRSP is a special RRSP where you make the contributions and get the tax deduction on your tax return, but your spouse is entitled to the future withdrawals from the plan, and hence they pay the tax on future withdrawals.
My spouse already has their own RRSP – is this the same thing?
No. Your spouse's RRSP is one where they make contributions, get the tax deduction, and are entitled to the future withdrawals from the plan.
What's the benefit of contributing to a spousal RRSP?
Using a spousal RRSP is an allowable way to income split with a lower income spouse – this means you could save tax! In the example where one spouse stays at home to raise the children and earns no income, they cannot contribute to an RRSP as they have no earned income. If the working spouse only invests in their own RRSP, upon retirement the working spouse will have all the retirement income to report on their tax return, likely resulting in higher taxes owing. Whereas if the working spouse contributes half to their own RRSP and half to a spousal RRSP, then upon retirement the income will be split between both spouses, which in general would lead to fewer taxes owing. As well, if you are over 71, you can continue to contribute to a spousal RRSP if your spouse is under 71.
Can't we split our RRSP income in retirement using the "pension income splitting provisions"? Why bother with the spousal RRSP?
Spousal RRSP's have been allowable for a long time, whereas the "pension income splitting provisions" have only been around since 2007. Who knows if the "pension income splitting provisions" will still be around when you retire? As well, there are very specific rules to qualify for "pension income splitting." For example, a lump-sum RRSP withdrawal does not qualify, nor do certain RRSP annuity payments made before the age of 65. So, using a spousal RRSP maximizes your flexibility down the road to income split, both before and after retirement.
Can I contribute to a spousal RRSP and have them withdraw it in the same year?
No. To ensure spousal RRSP's aren't abused to income split in the short term, there is an attribution rule that would allocate any income inclusion from the spousal withdrawal to the contributing spouse if a withdrawal is made within two years after a contribution year. For example, if the working spouse contributes to a spousal RRSP in 2008, then no more contributions could be made in 2009 and 2010, and an amount could then only be withdrawn in 2011 without having the income attribution rule apply.
So, I could use a spousal RRSP to claim a deduction on my return in 2020, have my spouse withdraw it in 2023 and have it included in their income?
That's right. But this strategy isn't for everyone. First of all, the purpose of an RRSP is long term retirement savings via tax deferral, so doing such a strategy defeats the purpose of the RRSP. However, in cases where a couple needs the cash-flow but wants to benefit from lower taxes, they could use this strategy to income split. The downfalls are the couple would be without the cash for 3 years before the non-working spouse can withdraw the funds without the attribution rules applying, as well this strategy is only effective in four year cycles as no further contributions can be made in years between the contribution year and the withdrawal year and in the withdrawal year. We suggest seeking advice from a professional accountant and investment advisor before implementing anything contained herein.
Did you know?
- The RRSP contribution limit is $26,500 for 2019 and $27,230 for 2020.
- Regular and spousal contributions for the 2019 taxation year may be made up to March 2, 2020.
- Overall tax savings are most significant for individuals who are currently in a high tax bracket but will be in a lower bracket when the RRSP money is withdrawn.
Pension Income Splitting
First introduced in 2007, the pension income splitting rules allows up to one half of pension income received, that qualifies for the pension income tax credit, to be transferred to your spouse or common-law partner (both of which are referred to as "spouse" below).
Why would we want to do this?
Splitting income allows the higher income spouse to transfer income to the lower income spouse, thereby taking advantage of the lower marginal tax rates of the lower income spouse and resulting in a lower overall tax bill to the couple. Because of this benefit available to spouses, the Income Tax Act only allows income splitting under very limited situations.
When does this apply?
Pension income splitting rules apply to taxation years 2007 and beyond.
What pension income can be split?
Payments from Registered Pension Plans (RPP), RRSP, Registered Retirement Income Funds (RRIF), and some foreign pension payments.
What pension income does not qualify for splitting?
Old Age Security (OAS), Canadian Pension Plan (CPP) (which can already be split under CPP rules), death benefits, retiring allowances, RRSP withdrawals, employee benefit plans.
How do we split the pension income?
By electing on Form T1032 prior to the filing deadline, in both spouse's personal tax returns to transfer the income. The transferor will deduct the elected amount from their income, and the transferee will include the elected amount in their income.
Is the transferred pension income eligible for the $2,000 pension income tax credit?
Do we have to split our pension income?
No. Each and every tax year you can elect how much pension income to split if any. The rules recognize that many spouses like to keep their finances separate from one another.
Will splitting pension income affect OAS payments?
Yes. Depending on the income levels of the spouse's it could decrease your OAS claw-back, or it could, in fact, increase your OAS claw-back. For this reason, it is essential that you seek professional advice in determining whether you should split pension income or not.
Old Age Security
The OAS program a Government of Canada pension program funded out of general tax revenues. To be eligible for this benefit you must be over the age of 65, and can expect to receive approximately $7,362 per year (indexed quarterly for inflation).
OAS Claw Back
If you are collecting OAS and your net income in 2019 is over $77,580, you are required to repay some or all of your OAS benefits. This "claw back" is the lesser of your OAS benefits received in the year and 15% of your net income that is over $77,580. The OAS claw back is calculated solely on your net income and is not affected by your spouse's income. Note that if your net income is $126,058 or greater in 2019 you will be required to repay all of your OAS benefits. If you are eligible to receive OAS but would be subject to a full claw back, you may consider deferring receiving OAS until a year in which the claw back is reduced or eliminated. You can delay the receipt of your OAS for up to five years beyond the normal start date of 65. Deferring the receipt of OAS will increase your OAS entitlement when you begin to collect it by 0.6% per month, increasing your overall maximum annual net income by up to 36%.
To defer your OAS pension follow the directions in your My Service Canada Account or send a letter to Service Canada.
If you have started receiving OAS payments but would like to defer them, you must request this cancellation in writing. To be eligible for this deferral you can only have received the pension benefits for less than six months. Please note you will be expected to repay the benefits you have received to date.
There is no financial advantage in deferring your OAS pension after the age of 70, you may in fact be at risk at losing benefits. If you are over the age of 70 apply now.
Canadian Pension Plan
The Canada Pension Plan retirement pension is a monthly, taxable benefit for individuals 60 years of age or older, who have made at least one valid contribution to the CPP program. Below are some highlights of the pension plan:
- The maximum employer and employee 2019 CPP contributions is $2,748.90, and for those self-employed the contribution limit is $5,497.80.
- The 2019 CPP maximum pensionable earnings is $57,400.
- If you are an employee between the ages of 60 and 65 and receiving the CPP retirement pension, you must still contribute to the CPP.
- If you are an employee between the ages of 65 and 70 you can choose to opt out of making contributions to the CPP.
- If you are under the age of 70 and decide to work while receiving your CPP retirement pension you will qualify for the CPP Post-retirement benefit, which will increase your retirement income.
- Your employer must match your CPP contributions described in (3) and (4).
The CPP is not automatic; you must apply. The amount you receive each month is based on your average earnings throughout your working life, your contributions to the CPP, and the age you decide to start your CPP retirement pension.
If you are collecting CPP, you may be eligible to pension share this income with your spouse or common-law partner provided you live with them. If a taxpayer's spouse is in a lower marginal tax bracket, this may be an effective means of income splitting and reducing the couple's overall tax bill. Individuals must apply through Services Canada.
Pension tax credit
A $2,000 pension tax credit is available if you earn eligible pension income, which typically includes income from a registered pension plan, income from a registered retirement income fund (RRIF), and annuity payments from an RRSP. If you are eligible to receive pension income from one of these plans and are not currently doing so, you may consider starting to collect some of this pension income in order to claim the pension tax credit. One means of doing this would be converting a portion of your RRSP to a RRIF in order to receive eligible pension income on which the pension tax credit can be claimed.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.