This week, a retirement planning expert shares a strategy that pays off.
In Canada, pension income splitting is a powerful tax tool that allows a couple to reduce their overall tax bill by transferring a portion of the taxable retirement income from the higher-earning spouse to the lower-earning spouse.
Why Convert Your RRSP to a RRIF at Age 65?
- Withdrawals from a RRIF are considered eligible pension income starting at age 65, even if you are not yet required to convert your RRSP (the mandatory conversion age is 71).
- Up to 50% of this eligible pension income can then be split with your spouse.
- It also entitles the recipient to the pension income amount (a federal credit of $2,000 and the provincial equivalent)
Conversely, a withdrawal from an RRSP before age 65 is not eligible for splitting (unless it comes from an annuity or a corporate pension plan).
Here is an example
Let’s say Jean is 65 years old and has a $400,000 RRSP. He doesn’t need a lot of cash, but he wants to minimize his taxes.
- Strategy: Jean converts part of his RRSP into a RRIF and withdraws $20,000 per year starting at age 65.
- This eligible pension income is split 50-50 with his wife, Marie, who has only $10,000 in annual taxable income.
Tax Impact
- Without splitting:
- Jean reports an additional $20,000 → estimated combined federal-provincial marginal tax rate: 37%
- Tax: $7,400
- With splitting:
- Jean reports an additional $10,000 ($20,000 ÷ 2) → tax: $3,700
- Marie reports an additional $10,000 → tax: approximately $1,800
- Total for the couple: $5,500 in taxes
- Annual savings: $7,400 − $5,500 = $1,900
In addition, there is the pension income credit (approximately $300 each at the federal and provincial levels), which amounts to about $600 in additional savings, bringing the total tax benefit to $2,500 per year.
Table and graph showing the cumulative growth in tax savings between the ages of 65 and 71 for a couple using this strategy of converting to a RRIF with income splitting. This allows you to see the exponential effect of the annual savings over several years.
Other benefits
- Reducing the taxable income of the higher-earning spouse can also prevent a recoupment of Old Age Security (OAS) benefits if net income exceeds the threshold of $93,454 in 2025
- Spreading out your RRSP withdrawals gradually through a RRIF can also reduce the tax liability upon death, since any unused RRSP or RRIF balance is fully taxable in the year of death.
Points to Consider
- Assess whether early withdrawals from an RRSP or RRIF will affect other Guaranteed Income Supplement (GIS) benefits.
- Coordinate the strategy with the timing of starting maternity leave and the RPC/RRQ.
- Take into account the overall allocation of investments (registered and non-registered plans).
Conclusion
Converting part of your RRSP to a RRIF starting at age 65—even though you’re not required to do so—can result in several thousand dollars in tax savings per year thanks to pension income splitting and the pension income credit. When planned properly, this strategy reduces taxes, smooths out withdrawals, and protects the couple’s net worth over the long term.
This article was written by Daniel Morin, an expert advisor at Conseils Retraite.
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