How to have the most tax-efficient retirement income plan

Not only will you see why “the most tax-efficient plan” doesn’t exist, but you’ll also realize that, if you are working with a planner, it is vitally important to look at alternative solutions within a computer model and participate in the planning process. 

The four different strategies help you to identify ways to reduce taxes. The first two have you starting Canada Pension Plan (CPP) and Old Age Security (OAS) at age 65, and the third and fourth ones start CPP at age 70 and OAS at age 65. Here they are:

1. At age 60 and 72: Start withdrawals from non-registered accounts at age 60, and from a registered retirement income fund (RRIF) at 72.
2. At age 60: Start RRIF withdrawals at age 60.
3. At age 60, 63, 64 to 72: Start RRIF withdrawals at age 60, and convert back to a registered retirement savings plan (RRSP) by age 63. Make withdrawals from non-registered accounts from age 64 until age 72. Convert RRSP to RRIF, and begin RRIF withdrawals again at age 72.
4. At age 64 to 71: Top up your RRSP, transferring in all your non-registered money, $302,000, minus the capital gains tax owing. Don’t claim an RRSP tax deduction. Convert RRSP to RRIF. Then follow the steps in solution 3, using your tax-free savings account (TFSA) from age 64 to 71, and begin claiming your RRIF tax deductions at age 72. For this solution, assume you have $302,000 of unused RRSP contribution room.

Now, which solution do you think would be the most tax-efficient? Rank them from 1 to 4, based on what you think would be the “most tax-efficient.” Are you comfortable with any or all of these solutions?

Ways to save on taxes on your investments during retirement

Let’s look at the numbers based on the four solutions above.

It’s interesting that the solution creating the most wealth is also the solution that has the highest lifetime tax liability.

I arrived at the above numbers with the following assumptions:

• Long-term inflation at 3%.
• Conservative home appreciation rate at 4%.
• Equity investment return of 6% (3% dividends, 3% capital gains, 20% turnover). (The real rate of return matters, not the posted rate. I run inflation at 5% or 2%, and I keep the real investment return at 3%, or 8% or 5% respectively.) 
• Capital gain on the non-registered account is $52,000.
• Life expectancy to age 100.

The main reasons the RRSP top-up solution did so well include:

• A larger CPP by starting at age 70 rather than 65, combined with a long life expectancy of 100. 
• The longer you live allows for tax-free compounding within a RRIF, unlike with a non-registered account, to overcome the larger taxable withdrawals.
• The guaranteed income supplement (GIS) was maximized between age 65 and 72.
• The RRSP contribution tax deduction was carried forward to age 72 and then claimed over 11 years, and any excess income was invested into TFSAs.

Spending an extra $10,000 in retirement

This table shows what happens when you spend an extra $10,000 a year or live to age 83, which is the life expectancy for women in Canada, according to Statistics Canada data.

Again, this looks interesting. If you live until age 83, the best solution from the previous chart becomes the lowest-ranked solution. Francine, of all these solutions, allow you to retire at age 60. So, which one would you choose?

Life changes, and so should your goals and financial plan

The challenge with financial planning is that things change. It’s good to simulate a plan over your lifetime to get a general sense of what’s possible. But once you have that, you’ll want to consider tax planning annually and/or over a five-year projection, particularly before you reach age 65 and receive your CPP and OAS.

Francine, if you really want a proper answer to this question, you need a financial planner to simulate it within a computer model, providing your input, to make it your plan. Planners can run the simulations, but only you know how you want to live and what strategies are a fit for you.

Read more about personal income taxes in Canada:

• Self-employed? Here’s how to file taxes for a side hustle
• The final tax return after death: How it gets done in Canada
• The tax implications of working abroad for residents and non-residents of Canada
• U.S. withholding tax in an RRSP for Canadians

About Allan Norman, MSc, CFP, CIM

With over 30 years as a financial planner, Allan is an associate portfolio manager at Aligned Capital Partners Inc., where he helps Canadians maintain their lifestyles, without fear of running out of money.

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