Look before you make the RRIF leap
Our spending question relates to “what” money to spend. We have aboveaverage amounts set aside in each of our RRSPs. Should we start to draw some money from the RRSPs in order to alleviate the tax implications at the time of Registered Retirement Income Fund payments? We believe that the RRIF formula applied to these amounts as they now stand, plus ongoing income from the other accounts as well as CPP and OAS (all likely to be clawed back), will put us in a much higher tax bracket than we are in at this point. DONNA
Knowing what money to spend, and when, can be tough. When you’re working, especially as a salaried employee, it’s a pretty easy decision. For the working population, the question is usually where to allocate extra cash flow — assuming there is some.
So it’s no surprise that in retirement, when people are drawing down on assets, it’s confusing or sometimes outright intimidating trying to determine where the money is going to come from.
Donna sounds more curious than worried, but some people are excessively worried. Some pre-retirees work too long or too hard because all they know is that they earn “X” dollars right now and if
‘For those who retire young and have sizable RRSPs, it’s not uncommon to see very low rates of tax in one’s 60s and then very high rates of tax in one’s 70s.’ JASON HEATH Certified Financial Planner
they retire, “X” is a big number to replace. But it’s important to note that it’s not “X” that you need to replace — it’s “X” less CPP, EI, union dues, benefits, pension, RRSP and TFSA contributions, among other things.
You also pay less tax as a retiree by virtue of pension (including RRSP/RRIF) and age tax credits. And if you’re earning a high income while working, you might be paying 50 per cent tax on some of your earnings, so some of the decline in your income might only mean 50 cents less in your pocket for every dollar your income declines.
For Donna and her husband, both aged 62, with lots set aside in RRSPs, it sounds like a not-so-bad problem to have. But it can be, from a tax perspective. Every dollar of RRSP withdrawals is taxable. Especially for those who retire young and have sizable RRSPs, it’s not uncommon to see very low rates of tax in one’s sixties and then very high rates of tax in one’s seventies. In some cases, this leads to an overestimate of wealth in the low-tax sixties and a faster decline in wealth in the high-tax seventies.
The solution? Choose to pay a bit of tax to CRA today. By taking early RRSP withdrawals, even if you don’t need the money to live on, you may pay less tax over the course of your life, for a variety of reasons.
In particular, most people would be better off in a middle-of-the-road tax bracket for most of their life as opposed to the lowest tax bracket in their sixties and the highest in the following two decades.
Income smoothing may also preserve government benefits like Old Age Security (OAS), which might otherwise get clawed back after age 65 if your income is too high.
The financial industry generally doesn’t spend nearly as much time as it should helping people plan what to do with their biweekly paycheques. Which accounts should money go into? Should you pay down debt?
Donna’s question is, therefore, a good one. It’s one you should be asking yourself or your advisers to ensure a plan exists to help you best get from A to Z.
When you take the leap into retirement, it’s important to know that you have a safety net to keep you financially comfortable. Setting up the right fund can be intimidating.
Financial planning consultant Jason Heath says people don’t get enough help planning for their retirement.