Having a partner in life can be a big advantage especially when it comes to tax alleviation
Marriage introduces a myriad of financial-planning challenges, including but not limited to conflicting attitudes about money, increased complications from longevity risk, and potentially costly battles over assets following a divorce. But as tax time approaches, advisors should be quick to remind their elderly couple clients of a valuable planning strategy open to them.
“[B]ecause Canadians can split certain kinds of income, your biggest tax asset may just be your spouse,” wrote Jonathan Chevreau, founder of the Financial Independence Hub, in a column for the Financial Post.
For those who have hit the age of 65, Chevreau said, the biggest tax benefit is the ability to split employer pensions. Introduced 11 years ago, the strategy allows a higher-income spouse to “transfer” up to 50% of certain types of employer pensions to a lower-income partner. The upshot: a probably lower overall tax hit as the spread income will likely settle into a lower tax bracket.
Pension-splitting possibilities are very limited for government benefits: Old Age Security cannot be split, while CPP income splitting can only be done when both spouses have hit age 60. Even a full split of CPP, Chevreau said, offers a very limited advantage with only around $6,000 that could be moved between spouses.
Things get much more exciting — to the extent that tax planning can be exciting — when one thinks about RRSPs for retirees in relationships. According to retired financial planner Warren Baldwin, couples should consider equalizing their income as much as possible through spousal/personal RRSP contributions.
An ideal strategy, Baldwin said, is for a couple with disparate levels of earned income to set up a spousal RRSP well before retirement. The spouse who earns higher income would put money in the spousal RRSP and get a corresponding tax refund; in retirement, the lower-income spouse would take income from the spousal RRSP and pay tax at a likely lower rate.
Individual RRSPs can also be subject to income splitting during retirement, but only after they’ve been converted into RRIFs. Once that’s done, up to 50% of the income drawn from a given RRIF can be split with an eligible partner. Aaron Hector, vice president of Doherty Bryant Financial Services, noted that the one drawing from their RRIF must be at least 65, but their spouse whom they split the income with can be younger than that.
Another benefit of equalizing income levels, noted Lycos Asset Management portfolio manager Adrian Mastracci, is a reduction in clawbacks of the OAS pension and age credit. For 2019, the clawback kicks in at a net income of $77,580, which means senior couples can split around $155,000 between them before they have to worry about OAS clawbacks. In the 10 to 15 years leading up to retirement, Mastracci suggested, couples should prepare by having the higher-income spouse cover all family expenses while the other saves and invests their money.
Doug Dahmer, who founded Burlington-based Retirement Navigator, also recommended that couples think about splitting incomes between tax years. Particularly in the years leading up to age 72 (when RRIF withdrawals become mandatory) and before OAS clawbacks start to apply, there’s a chance to draw down on RRSPs when marginal tax rates are low, generally when one is in their post-employment 60s.
“The key is to consciously draw enough from these taxable accounts to fill up their lower tax brackets,” Dahmer said. “Once the current tax year is in the rear-view mirror, you will have lost the opportunity to use these lower tax brackets forever.”