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Seniors with large retirement accounts face a big tax-deferred liability. Which tax and estate planning strategies might help?
I have invested well and now I am in my 80s. My RIF is almost $3 million and is going to attract heavy taxes. My other investments are about $2 million, some with capital gains which we are going to donate to charity.
Any suggestions on how to reduce the huge tax liability? Should we incorporate?
—Amy
One of the problems with a large retirement account is a big, deferred tax liability. There are definitely worse problems to have, but many seniors still wonder how to minimize tax on their investments and maximize their estate.
Registered retirement income fund (RRIF) withdrawals are fully taxable and added to your income each year. You can leave a RRIF account to your spouse on a tax-deferred basis. But a large RRIF account owned by a single or widowed senior can be subject to over 50% tax. A RRIF on death is taxed as if the entire account is withdrawn on the accountholder’s date of death.
Minimum withdrawals are required from a RRIF account each year, and in your 80s, they range from about 7% to 11%. For you, Amy, this would mean minimum RRIF withdrawals of about $200,000 to $300,000 each year. This would likely cause your marginal tax rate to be in the top marginal tax bracket. Sometimes, using up low tax brackets can be advantageous, but you do not have any ability to take additional income at lower rates.
Taking extra withdrawals from your RRIF when you are in the top tax bracket is unlikely to be advantageous. Here is an example to reinforce that.
Say you took an extra $100,000 RRIF withdrawal and the top marginal tax rate in your province was 50%. You would have $50,000 after tax to invest in a taxable account. Now say the money in the taxable account grew at 5% per year for 10 years. It would be worth $81,445.
By comparison, say you left the $100,000 invested in your RRIF account instead. After 10 years at the same 5% growth rate, it would be worth $162,890. If you withdrew it at the same 50% top marginal tax rate, you would have the same $81,445 after tax as in the first scenario.
The problem with this example is the two scenarios do not compare apples to apples. The 5% return in the taxable account would be less than 5% after tax. And the same return with the same investments in a tax-sheltered RRIF would be more than 5%. As such, leaving the extra funds in your RRIF account should lead to a better outcome.
So, in your case, Amy, there is not an easy solution to the tax payable on your RRIF. You can pay a high rate of tax on extra withdrawals during your life, or your estate will pay a high rate on your death. Given you do not need the extra withdrawals for cash flow, you will probably maximize your estate by limiting your withdrawals to the minimum.
You mention donating securities with capital gains. If you have non-registered investments that have grown in value, there are two different tax benefits from making donations.
First, if you donate investments to a registered charity, you get a tax receipt for the fair market value of the investments at the time of the donation. It is as if you gave cash to the charity. The tax savings are about 50% for a high-income taxpayer.
The second benefit is you can avoid the capital gains tax otherwise payable on the investments upon sale or upon death. So, if you donate $100,000 of investments with a $50,000 adjusted cost base (ACB), the math would work like this.
Tax savings from the charitable donation tax credit would be about $50,000. Tax savings from the $50,000 of capital gains avoided ($100,000 minus the $50,000 ACB) would be about $12,500.
In this example, there are $62,500 of combined tax savings. But to be clear, you would be giving away $100,000, so you are still out of pocket $37,500.
I am afraid incorporating will not help you, Amy. Incorporating can result in significant tax deferral when earning business income. Compared to claiming the same amount as personal income, the tax deferral for small income left in a corporation can be more than 40%.
Selling shares of a qualified small business corporation can also lead to significant tax savings compared to selling an unincorporated sole proprietorship to a buyer.
There are other non-tax reasons to incorporate a business. But incorporating your investment portfolio is not likely to help in your case, Amy. The primary reason some high-net-worth investors end up with investment holding companies is because they have an active incorporated business that benefits from the tax deferral afforded by lower small business tax rates. That after-tax business income can be shifted to an investment holding company on a tax-free basis to invest and keep the funds separate from the primary business for creditor proofing.
There may be opportunities for you to split income with lower income family members, Amy. One of the easiest options may be gifting during your lifetime. If you are unlikely to spend your $5 million portfolio during the rest of your life, you could make gifts to children or grandchildren. You could try to save tax as a family by helping your kids and grandkids maximize their tax-sheltered accounts. You could help them reduce their high borrowing costs given how high interest rates are right now. If you have family members paying 7% interest, your taxable accounts might need to earn 9% to 14% pre-tax to be left with 7% after tax, depending on the type of investments you own.
Giving away money during your lifetime can also help reduce probate and estate administration costs. Then there’s the appeal of seeing your family benefit while you are alive to consider.
In summary, Amy, there is no magic bullet to help with your large RRIF account. You will pay a high rate of tax during your life or upon your death on those withdrawals. There are some great tax incentives to donate securities with deferred capital gains to charities, but you need to want to benefit the charities as you are still giving away more than you are getting back. Incorporation is not going to help you, but looking around your family for ways to advance an inheritance during your life may have financial and non-financial benefits.
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The tax sweet spot is to owe about $2000 on filing. It’s too low to require quarterly installments the following year. To achieve this go into your Service Canada account and easily set up a fixed $$ tax withholding on OAS.
Yes and no
If you are senior with multi-million dollar RRIF, keep it simple; pay your taxes.
Living in Canada is a huge privilege. We are all enjoying the security and the services the country provides, no matter how imperfect. Paying taxes helps our government fund these projects.
Taxes are not terrible things; they are good things. Don’t overpay, but pay what is due.
Don’t know ant millionaire portfolio seniors but know a lot that have to still work PT even in 70’s
They were never high wage earners
How about setting up a trust account in this situation. I thought trust accounts were for such a senario
What about investing some of the money withdrawn from the RRIF into Flow-Through shares for the tax benefits? This would help offset some of the tax liabilities on the RRIF payments in the short term…and then the net benefit or cost will ultimately depend on the performance of the Flow-Through shares purchased.
TFSA contributions each, and every year, would allow some tax sheltering. Over the 20 years from age 65 to age 85 there might be $520,000 there that can be passed on tax free, if you’ve been contributing to TFSAs from the very beginning, and you haven’t been spending any TFSAs.
So keep Contributing the $6,500 in TFSAs (or soon to be $7,000 per year),
Two things that are unavoidable death and taxes! Hopefully you’re lucky enough to have to pay them, otherwise your life maynot be worth living.
Amy should have done her tax planning prior to retiring. Had she retired at age 55 and began withdrawls from her RRIFs then, her tax bracket would have been lower and her tax sheltered growth within the RIFF would have been less.By deferring the income and enabling the growth within the RIFF, she merely deferred the problem. If she didn’t need the income in the early years , she could have slowly tranferred the funds to her children over a 25 year period and enjoyed it while she was alive.
I have a joint account with my son.
If he opens a new account in his name only, closes the joint account and transfer the proceeds (in kind) to the new account, what are the tax implications?
Is the transfer considered a sale and therefor subject to capital gains tax?