When it comes to retirement income, the adage goes, it isn’t about what you earn – it’s about what you keep.
But surprisingly few Canadians have a retirement plan that will help them minimize taxes. In fact, a survey recently published by the Canadian Securities Administrators found that only 25 per cent of respondents had a formal, written financial plan, which makes it very likely that 75 per cent of Canadians are paying more tax than they have to.
There are many simple but profitable tax planning strategies you may not even think about until someone gives you the idea, says Lee Anne Davies, head of retirement strategies for RBC. “When people move into their retirement years, for example, they're often looking at their homes a different way, because they’re there so much more. We often see a lot of upscale renovations at this time; when you withdraw money from your portfolio for renovations, doing so over two calendar years can ensure you’re paying less tax.”
A financial planner will review all large-scale expenses to ensure that withdrawals don’t exceed the various tax thresholds, she says.
“When you’re entering retirement, you want to ensure you have the cash flow to do what you want,” says chartered accountant Jeff Greenberg, vice president, Financial Advisory Support, Wealth Management Services, RBC. “Tax is a factor that limits cash flow – so when you look at your various sources of income, you want to make them as tax efficient as possible.”
Ms. Davies says, “When we’re having conversations with our clients, it’s not about tax, it’s about all the goals they have for retirement. But we know how acutely aware they are of the importance of tax savings. Their income is now fixed, so they really want to take advantage of any opportunity to save money.”
Working with an accredited financial planner can help ensure that retirement income, including Canada Pension Plan and Old Age Security benefits, are received in the most tax-efficient manner, says Mr. Greenberg. “A good example is spousal RRSPs: in the lead-up to retirement, you have the opportunity to prepare to income split between spouses so that the retirement income of the two spouses is roughly equal. You’ll end up paying less tax overall.”
Many Canadians are under the impression that income-splitting strategies are no longer necessary since the introduction of the new pension income splitting program in 2007, but that is not completely accurate.
“Pension income splitting is very effective in terms of saving taxes if you have a high-income spouse and a lower-income spouse, but any withdrawals from an RRSP or from an RRIF by someone younger than age 65 don’t meet the criteria for this rule,” says Mr. Greenberg. “So it goes back again to the importance of planning – having more options, such as spousal RRSPs from which to do those withdrawals when you’re in the earlier states of retirement.”
The decisions required at this stage of life can be quite complex, says Ms. Davies. “Many people feel it’s almost like ‘Ta Da!’ – everything kicks in and off you go into retirement. But there are decisions to be made about pension income splitting, about whether you take CPP right away or delay it, how much (of your RRSP) you’ll transfer into an RRIF versus keeping in an RRSP. These transition years are so key.”
In the end, she says, financial planning is about living the retirement lifestyle that you want. “It’s about contributing in the ways you want to and enjoying yourself in the ways you want to. You don’t want money to be a limiting factor, so we want to plan well and help people reach their goals,” says Ms. Davies.
In retirement, income earnings count
A common misperception among the retired is the effect of taxes on employment income after retirement, says chartered accountant Jeff Greenberg, vice president, Financial Advisory Support, Wealth Management Services, RBC.
“Many retirees believe that if they earn a part-time paycheque on top of their pension or Canada Pension Plan benefits, the government will take half. But there is no province in Canada where the tax rate is 50 per cent. We have a graduated tax rate; only on income of over about $120,000 do you hit the top tax bracket, which is about 46 per cent in Ontario, for example.”
If a retiree earns between $30,000 and $40,000 each year, between CPP, OAS, investment income and RRIF or RRSP withdrawals, he says, and adds another $10,000 to $20,000 in employment income, that additional income will only be taxed at about 30 per cent to 35 per cent. “It’s not as onerous as people think. But in addition to the bit of tax you’ll pay in source deductions, you may also have to make a payment on your tax return. Working with a financial planner in advance will guard against unpleasant surprises.
