When it comes to generating an income in retirement things can get very confusing, very fast. During your working years you probably have one, maybe two, sources of income, typically a paycheck that arrives every 2-weeks, in retirement however you will likely have 5-10 different income sources coming every month.
A typical retiree will have both CPP and OAS payments in retirement (unless you’re extremely high-income and your OAS is entirely clawed back), plus a typical retiree will also have some investments in an RRSP, TFSA and non-registered account to draw from. Add to that pension payments from a defined benefit pension or maybe a defined contribution pension that was converted into a LIRA/LIF, and we’re up to 6 income sources already. Then we have to add additional payments from government benefits like the federal GST/HST credit, Guaranteed Income Supplement (GIS), and provincial benefit programs like the Trillium benefit in Ontario. Some of these arrive monthly, some quarterly, some just once per year.
And if that wasn’t confusing enough, each income source has its own tax and benefit claw back rules too.
For example, RRSP, CPP, OAS and pension income are all taxed at 100% of your marginal tax rate, but capital gains are taxed at 50% your marginal tax rate, and at some income levels dividend income has a negative tax rate!
Then you have TFSA withdrawals which have no tax at all, and most government benefits are tax-free as well!
All those different income sources naturally create a lot of different strategies to on how to drawdown your retirement assets in the most efficient manner…
Some people believe that drawing down their RRSPs first is the best strategy. Others believe drawing down non-registered assets first makes more sense. There might even be a few people out there who think that drawing down their TFSA first is best.
But the best way to create retirement income and drawdown your retirement assets is actually to mix them all together. Like an expert baker, the key is to mix retirement income sources in just the right proportions to get the best result. The tricky thing is that the exact proportions will depend on your specific situation, how much you have in each account, and how much retirement income you’re trying to create each year.
How much is planning your retirement income worth? How about $100,000 or more in reduced income tax! Even low- and mid-income seniors can benefit from strategic retirement income planning to help them avoid GIS claw backs, which can easily be worth $1,000’s per year.
At the end of this post we’ll show you 7 different withdrawal scenarios’. The difference between the best and the worst is over $328,490 in today’s dollars.
First, a bit of background on why we want to mix retirement income…
Families in Canada have a very unique financial planning opportunity that isn’t available to other Canadians. This opportunity can help boost their savings and provide them with more cash flow to save in the future. With a bit of careful planning families can reduce their overall marginal effective tax rate and save more money.
First, a little background…
In Canada, there are two types of “tax rates”. The first is income tax. This one is easier to understand. As your income increases you pay more income tax. The second tax rate is actually a “benefit claw back rate” and it works the same way as tax rate, the more your income increases the less you receive in benefits. In Canada, most government benefits are “clawed back” based on household net income. This means that as you earn more income your benefits will be reduced, or “clawed back”, and the effect is the same as income tax.
Families have a unique tax and financial planning opportunity because some government benefits don’t get clawed back until family income is well into the $100,000+ range. This means there are certain tax strategies that are unique to families, even those with above average incomes.
All families with children under the age of 17 are eligible for the Canada Child Benefit (CCB). The Canada Child Benefit is one of the most generous benefits in Canada, it’s even available to high-income earners, but it also has one of the highest claw back rates too. But, with careful planning it’s possible to avoid some of these claw backs, increase your annual benefit, and as a result increase your annual savings as well.
Claw back rates on the Canada Child Benefit range from 3.2% to 23% for each extra dollar you earn. The exact claw back depends on the number of children and your household net income.
The claw back means that if you earn an extra $1,000 this year, your benefit could be reduced by $32.00 to $230.00 next year!
This is even higher for low-income families who also receive other government benefits, like the GST/HST credit or Trillium benefits in Ontario, which all have claw back rates as well.
The opportunity for families is that RRSP contributions will DECREASE their taxable net income and will INCREASE their benefits. That means that a $1,000 RRSP contribution this year will INCREASE your Canada Child Benefit by $32.00 to $230.00 next year!
This means that families in particular can strategically save using an RRSP instead of a TFSA and boost their government benefits. This is counter to most financial advice that suggests low-income Canadians should prioritize their TFSA first. While this advice might be true for many low-income Canadians, it’s not necessarily true for families.
We’re going to take a look at four examples to show you just how impactful this type of financial planning can be.
Note: These are examples only, specific to Ontario, and should not be used for financial planning purposes. Income tax and benefit rates are very dependent on family income, income split, ages of children, province of residence etc. To understand the impact for your family we recommend building a custom financial plan with an advice-only financial planner.
Note: The following is a guest post from lawyer Manda Ivezic. Manda practices in real estate, wills & estates, and small business law in London, Ontario and provides wills at a very reasonable rate of $300 for an individual and $475 for a couple.
A recent LawPRO survey estimated that 56% of adult Canadians don’t have a will. Wills were least common for 27-34 year olds, 88% didn’t have one, and 71% of respondents didn’t have a power of attorney at all.
Why do so many of us put off wills and estate planning? Common reasons to delay estate planning include:
You’re too young to anticipate your death – you see yourself living a long and full life, dying of old age far in the future. You have plenty of time ahead of you to take care of your will.
It’s overwhelming or unpleasant to think about.
You think it’s unjustifiably costly.
You don’t think you’re wealthy enough to need a will.
You don’t realize how important it is, because you don’t understand what exactly will happen in the absence of a will or power of attorney.
The problem with putting off wills and estate planning is that you can’t safely assume how the future will play out.
Delaying may mean it never gets done – an accident or illness could make you incapable of creating a will. Not preparing will and estate plan only makes a bad situation worse. The consequences of dying without a will can easily outweigh the time and lawyer’s fee.
As well, a lawyer’s input can result in substantial cost savings down the line compared to the upfront cost, maximizing what is left to your beneficiaries. A will also saves time and trouble down the road. At the very least, appointing an executor will prevent someone having to apply to court to be appointed as your estate’ executor – an avoidable burden at the worst time for your family.
Get this task out of the way and give yourself peace of mind. Here’s what you need to know when creating a will and estate plan…
One of the biggest financial planning opportunities for regular people is around government benefits. Unless you’re earning an extremely high income you will probably receive some form of government benefit over the course of your life.
As a student, you may receive GST/HST credits. When you have a family, you may receive the Canada Child Benefit. And when you’re a senior you may receive Old Age Security and the Guaranteed Income Supplement.
Understanding how government benefits work can help you optimize how much you receive both now and in the future. A few simple changes can increase your benefits by $1,000’s per year and help you save more, increase your financial security, and general increase your peace of mind.
Some families may be doing this already, but not realize it. Other families may not be doing it at all, and losing $1,000’s.
Most benefits are based on your net income and most benefits have claw back rates associated with them. As your income increases, your benefit will go down based on this claw back rate. But not all income is created equal, and some types of saving will increase your benefits.
One of the best ways to optimize your benefits is by carefully planning RRSP contributions. RRSP contributions decrease your family net income and increase your benefits. This increase in benefits can provide a big incentive to save. Depending on the number of children, for some families, the increase in benefits from an RRSP contribution is worth more than the tax refund! In total, some families can get back $0.60-$0.70 for each $1 they contribute to RRSPs.
On the other side, when you’re ready to withdrawal from your RRSPs, these withdrawals need to be carefully planned. RRSP withdrawals increase family net income and can potentially trigger claw backs on GIS and OAS. With claw backs on GIS reaching up to 75% it’s important to plan RRSP withdrawals carefully to avoid losing 50%-75% of every $1 you withdraw from RRSPs in retirement.
If you’re earning a normal/average income understanding government benefits can potentially provide a big boost to your long-term financial security. Ignoring government benefits can make things unnecessarily difficult.
When you’re thinking about your financial future it’s important to consider risk. There are your typical risks, like the risk of losing money with investments, the risk of passing away unexpectedly, or the risk of not being able to work for an extended period of time. These are all common risks we need to plan for.
But there are also other risks too, ones that many of us might not include in our plans. These risks are less common, more speculative, but can be just as damaging. Risks like changes to government benefits, increasing tax rates, or changes to tax-advantaged accounts like the RRSP and the TFSA.
Based on age alone, the TFSA is relatively young, it’s barely entering the double digits. Although it was only introduced in 2009 it has already experienced a few dramatic changes during that time.
Anticipating changes to tax-advantaged accounts is an important part of any financial plan. A good plan should have enough room to absorb a few of these unexpected changes without causing major stress.
To ensure your plan is robust you need to anticipate these changes and understand how they might impact your plans.
In this post we’re going to speculate on a few ways that the TFSA could change in the future. This is pure speculation but it’s a good exercise to understand what changes might be possible in the future and how your plan can absorb them if they were to actually happen.
It’s getting to be that time of year again. Time for taxes, time for RRSP contributions, and time to debate whether a TFSA contribution or an RRSP contribution is the best choice.
RRSP season naturally creates this question for many people. Is an RRSP contribution really the right choice? Or would a TFSA contribution be better?
Unless you’re fortunate enough to be maxing out both accounts, the TFSA vs RRSP decision has been an annual conundrum since the introduction of the TFSA in 2009. If you’re not well versed in the differences between the TFSA and the RRSP, read this intro to the TFSA and this intro to the RRSP to get a better sense of the differences.
The TFSA and the RRSP two of the main tax advantaged retirement accounts in Canada. You can use one, the other, or both to save for retirement.
Using the TFSA alone can be enough for a luxurious retirement, one that is 100% free of taxes. However, in certain situations, the RRSP can provide A HUGE benefit by lowering your lifetime tax bill.
Which one you use depends on your situation, and not just your situation now, but also your situation in retirement. To make the decision even more complex there are also some soft benefits that can help push you toward the TFSA or the RRSP when all the other factors are equal.
Deciding between the TFSA or the RRSP can be tough. Making the right decision could be worth $10,000’s to $100,000’s. If you feel like you need help then please reach out to us. We help clients optimize their taxes and benefits, and choosing between the TFSA and the RRSP is an important consideration. A financial plan from a fee-for-service planner can easily save you thousands of dollars and also make these tough financial decisions much easier.
This TFSA vs RRSP guide takes a financial planner’s perspective on the decision between a TFSA and RRSP. Learn how to make the TFSA vs RRSP decision just like a financial planner would. Look at all aspects of the decision, not just taxes, not just government benefits, but everything.
Here’s how to make the TFSA vs RRSP decision like a financial planner. Each factor is important, but the weight you give each one depends on your own situation and goals.