If you’re like most Canadians, you’re always searching for ways to minimize your taxes — and if you want to keep more of your money as you head into retirement (or are already retired) that search becomes more important than ever.
In our post How to Make the Most of Your RRSP, we shared how RRSP’s work and all the tax advantages you can gain from contributing to RRSP’s when your income is high and withdrawing them when you retire and your income is (presumably) lower. But what can you do to turn your RRSP into a tax-effective income stream?
Time to transition from a growth mindset…
During your working years, sound financial planning included growing your RRSP by utilizing strategies such as:
• Contributing the maximum allowable
• Making contributions as early in life as possible (having ten extra years of contributions can more than double the amount you’ll have when you retire)
• Taking advantage of dollar-cost averaging by making monthly contributions
• Starting off the year with a lump sum contribution to enjoy a full year of tax-free growth
• Making use of asset allocation to maximize returns and minimize risk
• Using last year’s tax return to add to the current year’s RRSP contribution (or put it into a TFSA if it’s not needed for the RRSP contribution)
• Contributing to a spousal RRSP so you can split your income (and lower your taxes) in retirement
• Delaying retirement to give your RRSP longer to grow
Keep in mind too, that you can make contributions up until the year you turn 71 — but you can save the deduction for a future year if you anticipate having higher income sometime in the future (from the sale of a second home, rental income or work-related payouts, for example).
But once you near retirement, it’s time to switch from a growth mindset to one focused on creating a safe and stable source of income, because once you reach the age of 71, you no longer have the choice — government requirements make withdrawing from your RRSP mandatory.
So, if you don’t have a solid plan in place, the tax consequences could be substantial.
Turning your RRSP into an RRIF
You must turn your RRSP into a registered retirement income fund (RRIF) by the end of the year in which you turn 71, or the government will treat your entire RRSP savings as income for the year. As you can imagine, the tax hit on this would be substantial!
By transferring it to an RRIF, you can withdraw your nest egg gradually, so you fall into a lower tax bracket and pay only on the withdrawn funds.
Here is some basic information pertaining to RRIFs:
• Starting at the age of 71, you must start withdrawing funds from your RRIF. The minimum amount of your withdrawal varies with age and is outlined in the withdrawal chart on the CRA’s website
• If your spouse is younger than you, you can use their age to calculate your minimum annual withdrawal. This will give the investments within your RRIF more time to grow
• Your withdrawal can be taken at any time during the year. If you don’t need the funds for cash flow, you can take it all out at the end of the year (again, leaving more time for your investments to grow)
• You can withdraw more than the minimum, but never less
• Your RRIF can hold a diversity of investment opportunities. Your financial advisor can help you set up a strategy that will work best for you. All situations are different, so there is no such thing as a one-size-fits-all approach when it comes to investing.
• You can convert your RRSP into an annuity that will provide you with a steady monthly amount
• Depending on your cash flow needs, you can include ‘safe’ investments in your portfolio. This is known as the “cash wedge strategy” and provides you with enough liquidity to manage your financial needs while allowing the remainder of your nest egg to continue growing
Investing is very personal, so it makes sense that how you design your RRIF will be personal as well. Your needs in retirement could be drastically different than the needs of your neighbour.
The best way to make sure you don’t outlive your money and continue to live the lifestyle you want is to have a carefully thought out plan.
If you’d like to discuss your options, simply contact us and we’ll set you up with one of our trusted advisors.
Remember, it’s never too early to start planning for your retirement!