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And, perhaps more importantly, should Jerry, who’s retired, claim RRSP deductions or the capital cost allowance, to reduce his lifetime tax payable?
Q. I understand that net rental income creates RRSP contribution room—so, even as a retiree, I should be able to accumulate additional RRSP room. Does foreign net rental income add to RRSP room?
When I do my Canadian taxes using tax preparation software, the reported net foreign rental income doesn’t flow to the net rental income line of the return, but instead flows to other income and is therefore not taken into account to calculate RRSP room. Am I doing something wrong or does foreign rental income not eligible?
–Jerry
A. Canadian residents are taxed on their worldwide income. Foreign rental income is therefore taxable in Canada—as you know, Jerry—but not everyone knows or reports this income. The income may also be taxable in the country in which it is earned, and may require filing of a foreign tax return as well. Foreign taxes paid are generally eligible to claim for a foreign tax credit in Canada, often reducing Canadian tax payable dollar for dollar to avoid double taxation of the income.
If you have earned income and you are under the age of 72, you will accumulate Registered Retirement Savings Plan (RRSP*) room. The most common forms of earned income are employment income and self-employment income. RRSP room is calculated as 18% of your earned income, up to the annual maximum, subject to certain adjustments.
For example, earned income may be reduced by certain deductions like union dues and spousal support. RRSP room itself may be reduced by pension adjustments for those who are members of company pension plans.
Rental income is considered earned income for RRSP purposes. Specifically, it is net rental income that is eligible. Net rental income is gross rental income minus deductions like mortgage interest, property tax, insurance, and maintenance. Net rental losses, when expenses exceed income, reduce earned income when calculating RRSP room.
Foreign net rental income is considered earned income for RRSP purposes, Jerry. It may just be that you are not reporting it correctly on your Canadian tax return. I know sometimes it can be difficult to know how to report certain unique income sources, deductions, or credits. I also know that retail tax software can be confusing. All rental income should be reported on form T776–Statement of Real Estate Rentals.
I have prepared thousands of personal tax returns over the past 20 years. I have a family member who prepares their own tax return using retail tax software and invariably each year they have questions for me. I always have a hard time navigating the software, despite knowing personal tax very well. It seems every retail tax software is a bit different.
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The online forums for the tax software often have answers about where and how to report income, deductions or credits, or you can get your answers by posting a question to the forum for someone to answer. Some software companies offer email or phone support for questions.
I think an important secondary question, Jerry, is whether you should be contributing to your RRSP based on foreign net rental income, even if you are accumulating RRSP room.
If you are looking for tax deductions, you can deduct depreciation on your rental property. Capital cost allowance, or CCA, is generally 2% of what you paid for the building in the year of acquisition and 4% annually thereafter, on a declining basis. These rates apply to most residential buildings, but some property types may have different rates that apply.
CCA can be used to reduce your net rental income to zero, but not to create a net rental loss. Reducing your net rental income will reduce your earned income and resulting RRSP* room.
CCA may be a preferable deduction to RRSP contributions, as no cash is required to create the deduction. CCA is recaptured when you sell the property or upon your death. So, any CCA that you claim may become fully taxable in a high-income year if you have a large capital gain upon selling it due to the appreciation in the property value. As such, CCA may not be beneficial for someone in a low tax bracket to claim, because they may pay more tax in the future than they save today.
If you are in a low tax bracket, Jerry, I would question contributing to an RRSP in the first place. RRSP contributions may result in immediate tax deductions and tax savings, but that tax reduction may be short-sighted. Retirees are often better off taking RRSP withdrawals as opposed to contributing to RRSPs, to minimize their lifetime tax payable. However, this is not always the case, particularly for high-income retirees, so it is important to consider your retirement income planning based on your personal circumstances.
In summary, Jerry, I think you may be reporting your foreign net rental income incorrectly in your tax software, as it should create RRSP room. Consider whether claiming capital cost allowance is a good tax plan, whether with or without contributing to your RRSP. Most importantly, consider whether RRSP deductions are a good idea in retirement, or, to the contrary, if you should be considering RRSP withdrawals.
Jason Heath is a fee-only, advice-only Certified Financial Planner (CFP) at Objective Financial Partners Inc. in Toronto. He does not sell any financial products whatsoever.
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