Retirement Mistake No.24: Missing Pension Income-splitting Opportunities
Posted In: Retirement Planning for Entrepreneurs

Learning about the Federal budget every year can save your tax dollars every year. If you are earning income from a pension plan and having tax taken off at source, you may be paying too much tax.

Tim from Coquitlam, a retired fireman, has a pension plan that deducts tax based on the pension he receives. Christine, his spouse, does not have any income. Tim can split as much as 50% of his income with Christine this year, lowering his annual income tax bill by as much as 30% on the split portion of his pension plan.

Since Tim is having tax withheld by his plan at his income bracket and not the combined income bracket, he will be due for a tax refund in April, unless he asks the plan to consider lowering the amount of tax taken at source. This would increase Tim and Christine’s cash flow today instead of in April. There are no age restrictions, since Christine is younger than Tim. Christine’s tax return will show income and Tim’s will reduce the income. This may also affect the old-age claw-back for taxes on high-income retirees over 65. It may also affect nonrefundable tax credits when they do their tax returns. The pension credit for Tim is available on the first $2,000 of pension income. This will double the credit since Christine will have half of Tim’s income and will also qualify for the $2,000 pension income credit.

For individuals aged 65 and over the pension splitting applies for benefits from a registered plan, RRIF, or registered annuity. If you are under age 65 it applies to benefits from a registered pension plan or certain amounts received as a result of the death of a spouse. Check with your financial advisor, tax professional, and pension office to see if you might increase your cash flow today.

Avoid Excessive Pension Taxation

What will you do with extra income? Mrs. Jones from Qualicum beach emailed me an interesting question. She asked if she should convert some of her RRSPs into a RRIF in order to take advantage of the pension-income credit and to get some tax-free money out of her RRSP. I answered with a question. How old are you?

Mrs. Jones is 68 years old. She could have started taking money out tax-free at age 65; however, she can start this year. Here’s how it works. The Income Tax Act allows for a $2,000 pension income credit per person per year. To qualify for the credit you need to have income excluding Canada Pension Plan and old-age pension. This would be income from a pension plan. If  you do not have a plan then you can set up income from a RRIF to qualify for the credit. Mrs. Jones transferred enough money from one of  her RRSPs to give her the $2,000 per year, tax-free, to which she is entitled–until she turns 69. If  she had started when she was 65, she would have been able to get more tax-free money out of  her RRSP.

A retired couple with no pensions can take out $4,000 per year tax- free from their RRSPs, as long as they convert it to RRIFs because it must be RRIF income in order to qualify for the pension-income credit. This will give Mrs. Jones $2,000 more tax-free dollars to spend, so her neighbors will have a tougher time keeping up.

Do what you can, with what you have, where you are. – Theodore Roosevelt

The pessimist sees difficulty in every opportunity. The optimist sees the opportunity in every difficulty. – Winston Churchill


Published with permission from Grant Hicks

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