Updated: Jul 28, 2019
It doesn’t happen very often but every once in a while I come across someone who is frustrated with the rules surrounding RRSP’s. Mainly the fact that they have invested in RRSP accounts and when pulling the money out they end up having to pay good amount of tax. Generally, where people can really get into trouble with RRSP accounts is when they are forced to start taking money out of their accounts as they convert them to RRIF (Registered Retirement Income Funds) by age 71. At this point there is nothing you can do to stop the income flow. You may be taking more taxable income then you need, increasing the taxes you are paying and potentially incurring old age security claw back as well. For those of you who have large RRSP accounts saved up, the question ultimately becomes how can you avoid the inevitable future headache? For some the answer lies in withdrawing your RRSPs early.
Let’s take for example, a couple who each has a sizable RRSP investment portfolio worth $1 million, combined with a joint non-registered account of $1 million. For the sake of our example we’ll assume a 4% rate of return on their investment portfolios, after tax income need of $100,000 per year, and they each decided to take their CPP and OAS at age 65. In this scenario, if the couple waits to begin drawing from their RRSP accounts (RRIFs) until 72 and instead withdraw from their non-registered accounts in they interim, they will likely not pay any tax from ages 60-71. However, at 72 their average tax rate will likely jump to around 23% (combined federal and provincial tax rate for Manitoba).
Let’s change things up a bit and see if it will make a difference if they were to start drawing from their RRSP accounts at 60, their average tax rate would be 15% throughout retirement. Although they are paying tax from age 60, their estate value being left to their heirs is roughly 20% higher than the previous scenario.
It’s important to remember this is high net worth couple and the example may not pertain to everyone. The main difference in these people’s lives ultimately ends up being how much money they are leaving to their heirs, but what about people who are planning on spending most of their retirement savings?
For individuals or families who plan to spend it all, the main concern becomes how to avoid OAS claw back. I have written about this in the past but for a refresher; if you are receiving OAS and your income is higher then $75,910 then you will start to incur a claw back on your OAS payment. Your payments will be reduced by $0.15 for every $1 over the threshold with a full claw back occurring when your income exceeds $122,843. As you are forced to begin taking income from your RRSP accounts (converted to a RRIF after 71) you may start facing OAS claw backs which act like an additional tax on your income. One way to avoid this additional tax can be to withdraw your RRSP funds before you are forced to take the income. The idea is that you pay some tax upfront, but over the long term and after taking OAS claw back into consideration you end up ahead.
When it comes to deciding on when it makes the most sense to withdraw from your RRSP accounts, there is no one size fits all. As with most things related to your financial planning, you need to have a customized approach to your individual situation. Your numbers need to be looked at and projected forward so that future tax liabilities can be analyzed and planned for today. If you wait until you are forced to withdraw from your plans, there may be little you can do. If you plan ahead you just might be able to enjoy a trip to Hawaii each year on your tax savings alone.
-Grant White, CIM, CFP®
Grant White is an award-winning Portfolio Manager/Investment Advisor at Endeavour Wealth Management with Industrial Alliance Securities Inc. Together with his partners he provides comprehensive wealth management planning for business owners, professionals and individual families.
This information has been prepared by Grant White who is a Portfolio Manager for Industrial Alliance Securities Inc. (iA Securities) and does not necessarily reflect the opinion of iA Securities. The information contained in this newsletter comes from sources we believe reliable, but we cannot guarantee its accuracy or reliability. The opinions expressed are based on an analysis and interpretation dating from the date of publication and are subject to change without notice. Furthermore, they do not constitute an offer or solicitation to buy or sell any of the securities mentioned. The information contained herein may not apply to all types of investors. The Portfolio Manager can open accounts only in the provinces in which they are registered.