The holiday season has just passed, and I went overboard with gift-giving again this year. I gave Carolyn more presents than a man should rightfully be required to give his wife in a year. And yet Valentine's Day is just around the corner, and I better start planning a gift now.
You see, last year I blew it. How was I to know she wouldn't appreciate the electronic twirling spaghetti fork, the voice-activated television remote, and the keychain multi-tool? My 12-year-old son not only approved of these gifts, but he was impressed that I bought her all three. "Make that four gifts, son," I reminded him. "Don't forget about the Elvis wall clock. She loves his music."
Then I thought about the perfect gift this year: Money. No, not money for just any purpose; money that she can contribute to her registered retirement savings plan. After all, it's officially RRSP season.
I bounced the idea off my sister, who didn't like it. As it turns out, neither does the taxman. There are better ways to set aside retirement savings for a spouse than giving him or her money to contribute to an RRSP. Let me explain.
Picture this. Your spouse has unused RRSP contribution room, and wants to set aside some money for retirement, but doesn't have the cash to make a contribution to their RRSP. So, you give your spouse the money to make a contribution. Good planning, right? Not quite.
You see, the Canada Revenue Agency (CRA) says that when you give money to your spouse to make a contribution to their RRSP, all or part of the withdrawals made from that RRSP will be taxed in your hands - not your spouse's hands.
What's the rationale? The CRA has said that an RRSP is considered to be "property" under our tax law. Now, this provision in the tax law doesn't specifically mention RRSPs, but does define "property" as "property of any kind whatever." So, this includes an RRSP.
Next, any withdrawals from an RRSP are considered to be "income from property," which are subject to the attribution rules of our tax law. Those rules work so that the income from property is taxed in the hands of the spouse who gave the money to acquire the property.
The bottom line? If I were to give Carolyn money so that she can make a contribution to her own RRSP, she'd be entitled to the tax deduction, but I would pay tax on at least part of the withdrawals. I'm the higher income earner in the family, so this result is very bad from a tax perspective.
As an aside, the CRA has said that when cash from both spouses has been used to contribute to one spouse's RRSP, the taxman will accept all reasonable allocating methods to determine the portion of the RRSP withdrawals that should be taxed in each spouse's hands.
Now, how much of a risk is it that the taxman will apply these rules to your RRSP withdrawals? The fact is, it's not all that common when CRA reassesses a taxpayer using the attribution rules in the tax law. But it does happen, and you should undertake your financial planning with these rules in mind.
There's no question that you'll minimize tax if you and your spouse have incomes in retirement that are as equal as possible. Rather than simply giving your spouse money to contribute to their own RRSP, consider the following ideas:
- Contribute to a spousal RRSP. You can use your cash to contribute to a spousal RRSP which will provide you with the tax deduction, and your spouse can face the tax on withdrawals. This is different from giving money to your spouse for their RRSP contributions.
- Your spouse could borrow from the bank. If your spouse borrows from a third party and contributes to their own RRSP, all is well. Just make sure you don't pay off that loan, or the attribution rules could apply.
- You could lend to your spouse. If you lend the money to your spouse and charge the prescribed rate of interest (currently 1 per cent) on the loan, the attribution rules won't apply.
- Split eligible pension income. Building up your own RRSP assets rather than your spouse's is not such a bad thing since you can report up to half of eligible pension income (which can include certain withdrawals from registered plans) on your spouse's tax return.