Why does being over age 71 matter when you come into a large sum of cash, even more than if you have already retired?
Let’s explore:
Selling a home to downsize or deciding to move into a retirement community will likely lead to a surplus of cash. The more significant the amount, the more stressful making decisions around it will become. If you are not yet 71, already retired and drawing on CPP and OAS then you may or may not have also converted your RRSP into a RRIF, drawing additional income each year. If you still have available RRSP room then you can certainly use some of this surplus cash to top it off, further deferring taxation on it as it grows and reducing your taxable income for the year. Your individual situation will dictate how beneficial this may be but is an option available to explore. Deferring additional income is possible but by Dec 31st of the year you turn 71, the jig is up! You must convert your RRSP or LIRA to a RRIF; it’s payback time and CRA wants their dues.
So, what if you are already 71, or wiser? You now have a chunk of cash that you may or may not need for additional income but would want to at least preserve, if not grow it, and since any growth on this money would be fully taxable what options do you have so CRA doesn’t also get to benefit from all you worked for your whole life? Before we explore...
Let’s start with some questions you can ask yourself:
1. Are there any “big spends” still in my system that this money will now afford me the comfort to
truly enjoy?
2. Do I have any adult children or grandchildren that I’d like to financially help now vs after I’m
gone?
3. Do I need, or simply want, additional income, and will it trigger OAS claw backs?
4. Do I have concerns regarding my future health and unpredictable demands it may place on this
money?
5. Is managing & controlling my money with full accessibility key for me or would I prefer to know
that a set amount will be paid out to me, no matter how long I live?
6. Is leaving behind a legacy a priority or do I want my last dollar to run out the day before I do?!
7. Am I aware of tax strategies to limit annual taxation on this money both during my lifetime as
well as after I pass away?
8. Am I aware of the significance of my beneficiary options according to each type of account I
hold?
These are important discussions to have with yourself and or your partner. Your financial advisor/planner will help you prioritize the investment options available to you now and as your needs change, which likely fall into the following three scenarios:
1. Investing without an immediate need for additional income options:
Setting up or topping up a TFSA account. Tax Free savings accounts are one of the most valuable yet underutilized investment options that exist today. The lifetime contribution maximum for each person is currently $102K so if you have never set one up and you have a spouse, well that has just tackled your first $204,000! Tax Free Savings Accounts are truly tax free, always. Regardless of how you choose to invest it; conservatively in a GIC, moderately with stock and bond exposure or simply collecting daily interest (not ideal long term) then whatever your money makes for you will not attract tax. When you pass away, again, there will be no tax and if you have a successor owner named (spouse) then it will become theirs and continue to grow tax free. If you are single or widowed then it’s important, as with any time there is an opportunity to name a beneficiary, that you do so. In both these cases the funds will not be subject to probate and the fees that go along with it. In the case of a beneficiary there may be some growth from the date of death until the funds are paid to them that will be subject to tax. On the other hand, if you name your Estate then it will increase probate fees since it will increase the value of your estate. The added beauty of this misunderstood product is that it won’t die until you do or age 100, whichever comes first!! It expands and shrinks (like your favourite pair of stretchy pants) to accommodate your needs. Each year a new maximum can be contributed and you can take out what you want, when you want, and put back the full amount, even though it may have been mostly growth, without affecting your contribution room, unless you are already maxed out with contributions...in that case you just have to wait until January 1st the following year when even more room opens up. Your financial planner along with CRA’s tracking of your limits in your “My Account” can help you to always know where you stand.
An open/cash/non-registered investment. Those terms all refer to the same thing-an account that does not benefit from any tax efficiency on its own but depending on how your funds are invested can provide some tax reductions or deferrals. The vehicle you choose and the type of investment growth it produces will be key in how much tax you pay. It may be all interest, one of the major downfalls of GICs (fully taxable as income), dividends or capital gains when you have market exposure. Capital gains will give you the most tax efficiency in that you will not pay any tax until you sell the underlying investment at a profit and although we don’t invest to “lose” money, the silver lining of bad times is that we can trigger capital losses by selling some underperformers to offset other gains either in the same year, carried back up to three or carried forward indefinitely. Segregated funds allow you to name a beneficiary which as with a life insurance policy is completely private. The funds will not be pulled into probate as a result.
Segregated Funds allow parents and grandparents to “leave” money behind to whomever they wish without anyone knowing so no more dreaded “reading of the will” to expose who you felt would be most responsible with the money. You can be fair but not necessarily “equal.” This is where utilizing an investment professional/financial planner can really help you strategize.
2. Investing when you need or want additional income:
Just like with a bank account you can certainly withdraw money at any time (so long as you have not locked into a set term deposit or non-cashable GIC) from any of your investments but for most having a consistent amount to count on monthly is favoured. There are so many ways to design income streams that will fit your needs and allow for flexibility and limit taxation. When the goal is income it’s good to give each investment you choose a “job.” As an example; you could have one account that pays a consistent amount monthly for your fixed monthly expenses and a second one that spits out regular interest or dividend income only at set intervals but potentially varying amounts or both!
Life Annuities:
This valuable option is often misunderstood as it involves giving up a specified amount of capital in return for a guaranteed income for life. Yes, life...good genes and you’re likely to live into you late 90s or even past 100? Well, you win because the insurance company would have paid out more to you than you gave up without the stress of managing the money meaning, regardless of what is going on in the economy, politics or the markets you are getting your monthly deposit. We all have set monthly expenses that are non-negotiable and using an annuity to fund these responsibilities is worth exploring even more when over age 71. If giving up capital that you wanted to leave as a legacy is of concern then a life insurance policy (new or existing) can be used inexpensively to offset that risk. More on this in future newsletter editions.
Guaranteed Life Pay options with Segregated Funds:
Some insurance companies offer a life pay option but without you needing to give up the actual capital you have invested. The catch? If you dip into it (likely due to an unexpected big expense) then you will affect the guaranteed amount which will then be recalculated. You pay a higher management fee for this guaranteed income and still having access to your cash but again, this can be used to tackle those fixed living expenses without needing to make any permanent decisions because if you decide you want to access some or all of this money during your life time then you certainly can (giving up the guaranteed income).
Tax efficient Mutual Fund investing with income:
A little-known strategy, available with only a few investment firms, allows for certain structures of mutual funds to defer a significant amount of taxation to your later years or even your passing. By paying your monthly income as a “return of capital” first, all your growth-interest, dividends and capital gains are deferred. This is a blessing since no tax slips on income mean no impact to your OAS benefits!
There will still be some dividend and capital gains distributions by the fund that you will need to declare but they will have only a slight impact on your taxes compared to having to declare all that income!
3. Simply wanting to preserve and leave as a Legacy.
If preserving this money for future generations or gifting to your favourite charity or church is your goal then it will really come down to the risk/reward you are looking for, the minimization of taxation annually and to your estate as well as considering privacy issues as mentioned earlier. Charitable giving has added tax benefits that your advisor can discuss with you and will be covered in future newsletter editions.