Valentine's Day is practically here. My brother-in-law, Peter, is in deep trouble if he forgets again this year. Oh, it's happened to me before. Whether its anniversaries, birthdays or Valentine's Day, some men simply have a handicap. You would think that the advent of the personal computer and electronic reminders would have ended the struggle for these men. That would be the case if we could only remember to add these events to our calendars. That itself is an issue.
Peter and I have agreed to hold each other accountable for remembering important dates, and so I was glad to receive a call from him this week reminding me that Feb. 14 is coming up. We got to talking about gifts for our wives. He's already solved that problem. He made a $20,000 contribution to Janice's registered retirement savings plan for her. Now, this is a bad idea on a couple of fronts. First, an RRSP contribution doesn't have the same effect as jewellery (I know from experience). Second, the taxman isn't going to be kind when it comes time for Janice to make withdrawals from that RRSP. Let me explain.
You've probably heard of the "attribution rules" in our tax law. These are rules that are designed to prevent you from shifting income from your hands to the hands of your spouse or related minors so that they pay the tax rather than you. I won't go into the nitty-gritty of these rules today, but I will point out that if you give money to your spouse, and he or she earns "income from property" on that money (which typically includes interest, dividends, rents or royalties), that income will generally be attributed back to you, and you'll pay the tax.
Now, back to Peter's problem. Peter contributed cash to Janice's RRSP. Don't confuse this with a contribution to a spousal RRSP that Peter might have set up for Janice. That's not what happened. Peter made a contribution to Janice's own RRSP that she set up in the past. Effectively, Peter has given Janice $20,000 for a contribution to her own RRSP. Janice is going to claim the deduction as she normally would for her RRSP contributions. No harm done, right? Not quite.
A while back, the taxman issued two technical interpretations (letters to taxpayers) that talked about this situation. Those interpretations clarified that an RRSP is considered to be "property" and, therefore, any taxable income on withdrawals from an RRSP is considered to be "income from property." Don't forget, the attribution rules apply to income from property. That is, where one spouse gives money to the other who then earns income from property, that income will be attributed back to the spouse who gave the money.
Translation: When Janice makes withdrawals from her RRSP, the taxable income on the withdrawal will be attributed back to Peter to face tax in his hands to the extent it was his money that was given to Janice for her RRSP savings.
The Canada Revenue Agency has said that once withdrawals are made from the RRSP, and if those withdrawals are invested elsewhere to earn income, there will be no further attribution of that income back to the original spouse who provided the cash in the first place.
Also, the taxman has not set any guidelines on how to attribute taxable withdrawals back to the spouse who provided the cash for the RRSP contributions, which can be confusing where both spouses have provided the capital for contributions in the past. Both Peter and Janice have made contributions to her RRSP, so how will any taxable withdrawals be apportioned between Peter and Janice when she withdraws money from the plan later? The CRA has said that they will accept any reasonable method of allocation here.
- Instead of giving your spouse money for RRSP contributions, or directly contributing to your spouse's RRSP, consider the following:
- If your spouse doesn't have cash to contribute to his or her RRSP, he should consider making a contribution of investments in-kind to the RRSP if he has other investments;
- Your spouse could also consider borrowing money to contribute to the RRSP;
- You could lend money to your spouse and charge the prescribed rate of interest (currently 1 per cent, and you can lock in that rate indefinitely) to avoid attribution back to you;
- Set up a spousal RRSP for your spouse where you contribute to the plan, claim the deduction, but your spouse pays tax on the withdrawals.
Tim Cestnick is managing director of Advanced Wealth Planning, Scotia Wealth Management, and founder of WaterStreet Family Offices.