This is a guest post by Mark McGrath, CFP®, CIM®, CLU®. Mark is based in Squamish, BC. Over the past decade, he’s worked with over 500 Canadian physicians and their families to achieve clarity, confidence, and comfort with their finances. Follow him on Twitter for more incredibly useful financial planning tips.
More than 1 in 5 working-age Canadians are between the ages of 55 and 64 – more than at any time in our history. With the impending retirement wave, retirement planning is on the minds of more Canadians than ever.
And while planning for a successful retirement involves many uncontrollable factors – things like inflation levels, interest rates, and your own longevity – there are some strategies you can use to increase your chance of success.
Let’s look at eight often overlooked ways to save tax in retirement and keep more money in your pocket.
Some of these may be familiar to you. But I bet there’s a couple you didn’t know about.
Make use of the pension income amount tax credit
If you have qualifying pension income, you may be able to claim the pension income amount tax credit.
A tax credit reduces your taxes owing. If you owe $500 in taxes but have a $200 tax credit, you only owe $300.
The federal amount is 15% on pension income up to $2,000, and each province has their own credit as well. On the federal portion alone, that’s a $300 reduction in your taxes.
The types of income that qualify are:
- eligible pension income such as registered pension plan, RRIF and LIF payments (or both); and
- annuity payments if you were 65 years of age or older on December 31, 2022, or, regardless of your age, you received payments because of the death of your spouse or common-law partner.
While this list is not exhaustive, note that income from OAS benefits, CPP benefits, and QPP benefits do not qualify.
If you don’t report eligible pension income, it might be worth taking some RRIF income before it’s required. You can convert a portion of your RRSPs – say $2,000 each year to a RRIF and get the full pension income tax credit. If you are 65 years of age or older, and your spouse does not report pension income, you can withdraw $4,000, split the income on your tax return, and each qualify for the full credit.
If you have a high income from other sources – say you’re still working, for example – this might not be to your advantage. If you withdraw RRIF income at a high tax rate that would otherwise be deferred into the future when you’re in a lower tax bracket, you may pay more tax now than if you deferred it. Even after accounting for the tax credit.
Using your younger spouse’s age for minimum withdrawals
If you have RRSPs or Locked-In RRSPs, you’ll likely convert them into RRIFs and LIFs eventually. When you do, you are required to make a minimum taxable withdrawal each year. The minimum is by default based on your age, and the percentage goes up yearly.
When you open your RRIF/LIF, you can instead opt to use your younger spouse’s age to calculate the minimum withdrawal.
For example, at age 72, the minimum withdrawal is 5.40% of the account’s value at the beginning of the year. But at age 65, the amount is only 4%.
Since you can always take more than the minimum but never less, this gives you more flexibility – it sets a lower minimum income floor.
One thing to know is that when you take the minimum amount, you are not required to have tax withheld at the source (it’s still taxable, of course). Any amount over the minimum does require withholding tax. Because of this, if you need more than the minimum based on your own age but elect to use your spouse’s age, you might receive less income each month due to the withholding tax. It all comes out in the wash when you file your taxes at the end of the year, but it can be a surprise if you’re unaware of it beforehand.
Once you elect to use either your age or your spouse’s age, you can’t change it. So, if you opt to use your age but then decide you want to use your spouse’s, you’ll have to open a new RRIF, make the appropriate age election, and then transfer your existing RRIF to the new one.
Unlock your LIF account over time
A LIF is a Life Income Fund and is like a RRIF in a few aspects. Where it differs is that there is a maximum annual withdrawal limit each year too. This maximum is the greater of either the amount set out by provincial pension legislation or the growth of the investment account in the previous year.
Each year, you must withdraw an amount between the minimum and the maximum and, like a RRIF, pay tax on it. But you might not know that you can transfer the difference between the maximum and the minimum to an RRSP (if you’re age 71 or below) or a RRIF. Doing so slowly converts a less-liquid asset – the LIF – to a more liquid asset – your RRSP or RRIF.
This gives you more flexibility in case you need to make a large one-off withdrawal, say for an unexpected expense.
Income splitting with a spouse or common law partner
Since Canada uses a graduated tax system, the more income you earn, the higher the tax on each incremental dollar of income.
By splitting income with a spouse or common law partner, you can take advantage of their lower tax brackets and reduce the family tax bill.
For example, in BC, an individual earning $100,000 of income will pay roughly $21,000 in tax. But a couple earning $50,000 each would only pay roughly $13k in tax – a difference of nearly 40%!
There are a few income-splitting techniques available to retirees in Canada:
- Eligible pension income splitting
- Using Spousal RRSPs
- Sharing CPP credits
Pension income splitting
Up to half of eligible pension income can be split with a spouse – the same type of income that qualifies for the pension income amount tax credit.
By moving income out of your hands and into those of a lower-income spouse, you can equalize your family income, use up their lower tax brackets, and reduce your family tax bill.
Using Spousal RRSPs
This one takes some foresight but can shift a substantial amount of income to a spouse.
A spousal RRSP gives the contributor the income deduction, but the account owner – the spouse – claims the income on withdrawal. Say you earn $100k per year, and your spouse earns nothing. If you were to use an RRSP in your own name, you would get a tax deduction on the contributions, but when it comes time to withdraw the funds in retirement, the income is taxed in your name.
Because RRIFs withdrawals are eligible pension income, you can then elect to have half of the withdrawal taxed in your spouse’s name.
Using a spousal RRSP instead, you can shift the entire withdrawal to a spouse – not just half.
Depending on your other income sources in retirement, this can lead to more income in your spouse’s hands, taking advantage of their lower tax brackets.
Another trick with spousal RRSPs is that if you have a younger spouse, you can contribute to them even when you’re no longer eligible to have your own RRSP. Usually, you must wind up your RRSPs by the end of the year you turn 71, most often by converting them to a RRIF.
But if you are still working, you’re still generating RRSP room for yourself – even if you can’t own your own RRSP. In that case, you can contribute to a spousal RRSP if your spouse is 71 or younger.
CPP income doesn’t qualify as pension income for the purpose of pension income splitting.
That doesn’t mean you can’t share it, though.
You can share half of your CPP based on the number of years you lived together. It’s calculated by dividing the number of years you lived together by the ‘’joint contributory period’’. This period starts when the older of you turns 18 and ends when you both take CPP payments.
You must both be age 60 or older and receiving CPP payments to qualify.
For example, say Bob and Alice have been living together for 20 years. They’re the same age, and they take CPP payments starting at age 68. That means the joint contributory period is 50 years. Of that, they’ve been living together 40% of the time.
They can share half of 40% of their CPP.
Say Bob’s CPP payments are $600 and Alice’s are $1,000.
The simple way to calculate this is to take the difference in their CPP payments ($400), divide it in half, and multiply it by 40%. You increase the lower CPP amount and decrease the higher amount by this number. In their case, that’s (($400/2) X 40%) = $80 each.
In the end, Bob claims $680 in CPP income, and Alice claims $920.
The only circumstance where the amounts would be equal is if they had been living together for the entire joint contributory period.
And you can’t elect to have only one spouse share CPP – either both share, or neither do.
To share your CPP, you must apply for it through Employment and Social Development Canada. CPP sharing starts as soon as your application is approved, and you can’t apply retroactively.
Claiming medical expenses on the tax return of the lower-income spouse
Certain medical expenses qualify for a non-refundable tax credit. This tax credit can be transferred to a spouse, meaning either spouse can claim it, and qualifying medical expenses can be combined on one tax return to maximize the tax credit.
The tax credit is calculated based on the excess above the lower of two amounts – either 3% of net income or the provincial and federal thresholds for the year. For 2023, the federal threshold is $2,635.
Since either spouse can claim the expenses, it often makes sense to combine the expenses and claim them on the return of the lower-income spouse. That’s because 3% of their income is likely below the threshold set out by CRA, allowing more of the expense to be eligible for the credit.
For example, you and your spouse each incurred $1,000 of eligible medical expenses. At first glance, you would not qualify. Even combining the expenses, the total falls short of the $2,635 threshold.
But assume you are the lower-earning spouse, and your income is $40,000. Since 3% of $40,000 ($1,200) is lower than the CRA threshold, you can combine the expenses and claim the amount that exceeds $1,200 ($800 in this case). Doing so gets you a federal tax credit of 15%, or $120. Each province has a medical tax credit as well, so the savings may be even higher.
The medical tax credit can be claimed for any 12-month period that ends in the tax year. So, for 2023, you can claim expenses from June 2022 to May 2023, for example, if that’s more advantageous for you – as long as you haven’t claimed those expenses previously.
Transferring capital losses to a spouse
While this is situational, if you have capital losses from your investments that you can’t use, there’s a trick to transfer them to a spouse. Capital losses can be used to offset capital gains in the current year, the previous three years, or any year in the future.
To transfer them to a spouse, we must take advantage of the superficial loss rules that apply to non-registered accounts.
Rules prevent you or an affiliated party such as a spouse from triggering a capital loss without also divesting of the underlying asset for a meaningful period. That period is 61 days – 30 days before the loss occurs, the day of the loss, and 30 days after. If these rules didn’t exist, we could just sell an investment when there was a loss and immediately buy it back, crystallizing the loss for tax purposes but not truly disposing of the asset. CRA doesn’t like that.
The rules are designed to capture investments owned by a spouse as well. So, if you sell an investment at a loss, but then your spouse immediately buys it – the loss will be denied.
To see how it works, let’s meet Jane and Darrel.
Darrel has an unrealized capital loss this year. He got caught up in the meme-stock craze and took a bath. He has $20,000 in capital losses but no gains against which to apply them. His cost basis is $50,000, and the market value of his investment is $30,000.
Jane, however, a prudent index investor (and disappointed in Darrel’s investment decisions), has $20,000 in capital gains on her index fund portfolio.
Darrel sells his meme stocks, crystallizing his capital loss.
Jane immediately buys the same meme stocks, in the same amounts, in her own non-registered portfolio.
This does two things:
- Darrel’s capital loss is denied because of the superficial loss rules – his spouse bought the same shares; and
- The $20,000 is added to Jane’s cost basis
So while Jane bought the stocks for $30,000, her cost basis is $50,000. If she waits 30 days to sell the stocks, presuming they are still trading around $30,000 (or even lower!), she can sell them. Since her cost basis is $50,000 due to the superficial loss rules, she now has a capital loss.
Darrel’s loss is her gain.
*A Word About Single Retirees*
As many readers have pointed out, many of these strategies are only useful when there is a spouse or common law partner involved. I do want to address the concern that single seniors are being “punished” though.
Let’s reframe these ideas from the perspective of a couple.
Traditionally, there has been an income disparity between spouses. Without income-splitting strategies, spouses are unfairly affected by the existing rules, and the lower- or no-income spouse’s contribution to household finances is ignored.
For example, if one spouse stays home to raise children, their contribution to the home allows the other spouse to continue to work, earn an income, contribute to CPP, and save in their RRSPs.
Is it fair that this individual bears the entire tax burden for the family both during their working years, and through retirement? Without income-splitting, the family’s taxes are lopsided despite the low- or no-income spouses’ significant contribution to the family.
So while I don’t disagree that there are fewer tax strategies available for singles, I view the rules that single seniors must abide by as the baseline.
And these strategies are in place to prevent couples from being “punished”.
Sound planning and strategy can go a long way to ensuring a successful retirement. Using the tax saving strategies above, you give yourself that much more opportunity to enjoy the retirement you designed.