Retirement Tax Layering: Partial RRIF/RRSP Conversion

Authored by Jack Lumsden, MBA, CFP®, Financial Advisor, Assante Financial Management Ltd. Additional editing by ChatGPT.

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Introduction

Retirees contemplating their financial strategy often find value in strategically converting a portion of their RRSPs to RRIFs before reaching the age of 71. This proactive approach allows individuals to capitalize on potentially lower income tax brackets, offering a more efficient way to manage their finances before the mandatory conversion of RRSPs to RRIFs at age 71.

Case Study: Rachel and Ross

Background

Rachel: Age 63, still working, plans to retire in two years.

Ross: Age 60, retired last year, with RRSP, TFSA, and future CPP and OAS income.

Strategy

Deferring CPP: Ross plans to defer CPP until Rachel retires at 65, aligning with their current income needs.

Pension Splitting: Rachel’s excellent pension can be income-split with Ross upon her retirement.

Partial RRSP Redemption Strategy

Tax Exemption Insight

The 2023 personal tax exemption of $15,000 allows for tax-free income up to this threshold.

Tax Calculation for 2023

The below chart reviews the tax owing at different redemption amounts.

Redemption	Tax Owing	Average Tax Rate
$15,000	$0	0%
$20,000	$1,020	5.12%
$25,000	$2,163	8.65%
$30,000	$3,135	10.55%

Source: Ernst & Young Personal Tax Calculator 2023

Implementation

For 2023 and 2024, while Rachel is employed, Ross plans to redeem at least $15,000 from his RRSP, minimizing tax liabilities. The proceeds can be utilized to bolster their TFSAs or invest in a non-registered account.

Ross’s marginal tax rate once he turns 71 is projected to be about 32%, so this strategy can be reviewed each year until age 71.

Considerations

1. Withholding Tax: The redemption will occur at year-end to accommodate CRA-required tax withholding, with the refund obtained upon filing the tax return in April, to reduce the time period to get the refund.
2. Pension Credit: Ross, being under 65, doesn’t qualify for the $2,000 pension credit with RRIF income. This justifies the choice of redeeming from the RRSP directly. At age 65, conversion to RRIF before redemption would be advantageous for the credit.

Conclusion

By diligently reviewing and strategically planning income tax considerations throughout retirement, individuals can optimize their retirement income and effectively manage their tax obligations. This approach allows for a more nuanced and personalized financial strategy tailored to individual circumstances.

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