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Most Canadians will enter retirement with Canada Pension Plan and Old Age Security benefits, and whatever savings they accumulated over their career.

Some of those savings will be in tax-sheltered vehicles – registered retirement savings plans, workplace defined contribution plans and tax-free savings accounts. Defined benefit pensions, meanwhile, are nearly extinct in the private sector. But you may also have financial assets that are not tax-sheltered, which I will call “after-tax assets.”

After-tax assets can arise from a number of sources, such as the sale of an investment property, day-trading, downsizing your home, an inheritance or a lump sum divorce settlement. These are assets for which income tax, if applicable, has already been paid. The question is, what assets do you tap first in retirement: savings from tax-sheltered vehicles or after-tax assets?

Investment income on after-tax assets is taxed each year. By contrast, assets in an RRSP – or registered retirement income fund after retirement - are tax-sheltered until the money is withdrawn. By drawing down after-tax assets first, you can defer income tax on your RRSP/RRIF assets as long as possible. That certainly sounds like the best strategy, but is it?

To test this, I used the example of a new retiree, Colleen, who is 62 and single. She is about to retire with $300,000 in RRSP assets plus another $300,000 in after-tax assets. To keep things simple, we will assume she has no TFSA savings and no company pension.

Using the retirement income calculator I built, called the Personal Enhanced Retirement Calculator (, I estimate that Colleen can receive $53,200 of gross income, including CPP and OAS, in the first year of retirement, plus inflationary increases in future years. This income stream should be sustainable into her 90s as long as she can achieve an investment return of about 5 per cent a year.

Because income tax is still payable in retirement, Colleen cannot spend the entire $53,200, only the after-tax income. Consider two scenarios:

  • Scenario 1: Proportionate Withdrawals – Colleen draws her retirement income from her RRIF and after-tax assets in proportion to the balance she has in each account. In this case, that means half will come from her RRIF and half from after-tax assets.
  • Scenario 2: After-tax First – Colleen draws down her after-tax assets to zero before touching her RRSP/RRIF.

To gauge which scenario is better, we will apply two tests. The first involves calculating the present value of after-tax income under each scenario. This is a holistic way of determining which scenario is worth more. To do that, I estimate her projected income each year into the future, deduct the income tax payable and then discount the after-tax amounts back to the present day. For the purpose of this calculation, I assumed a median return – about 5 per cent a year – on assets in all future years.

Based on this first test, the first scenario of proportionate withdrawals has a slightly higher present value than Scenario 2. This is a surprise since it is Scenario 2 that keeps the RRSP intact as long as possible.

The reason Scenario 1 holds its own under the first test has to do with our progressive income tax system. By taking a blend of income from both sources in all years, Colleen minimizes her exposure to the higher income tax brackets. By contrast, drawing down her after-tax assets first pushes her into a higher tax bracket once the after-tax assets run out.

It is the second test, though, that really puts Scenario 1 out in front. This test involves assessing which scenario provides the better stream of after-tax income. As the accompanying chart shows, after-tax income in future years rises continuously under Scenario 1, which is what any retiree would want. By contrast, after-tax income under Scenario 2 crashes at the age of 68, the year that the after-tax assets run out and Colleen starts drawing on her RRIF.

Scenario 1 is in a virtual tie under one test but the clear winner under the other, which makes it better overall. The same outcome would have prevailed if Colleen had double or triple the assets assumed in this example since the strategy of making proportionate withdrawals would still minimize Colleen’s exposure to the higher income tax brackets.

The conclusion is that retirees will generally be better off drawing down assets from multiple sources on an annual basis rather than trying to keep their RRSP intact for as long as possible.

Frederick Vettese is former chief actuary of Morneau Shepell (now LifeWorks) and is also the author of Retirement Income for Life.

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