How to have the most tax-efficient retirement income plan - MoneySense (2024)

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By Allan Norman, MSc, CFP, CIM on March 22, 2023
Estimated reading time: 5 minutes

By Allan Norman, MSc, CFP, CIM on March 22, 2023
Estimated reading time: 5 minutes

Should you plan your retirement savings around paying the least amount of taxes? Find out the implications and the better solution.

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How to have the most tax-efficient retirement income plan - MoneySense (1)

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I am 59 years old, semi-retired and live in Ontario. I have $302,000 in my non-registered investment account (mostly Canadian equities), $133,000 in my TFSA (in equities), and $287,000 in my RRSP (in equities). I have three non-registered GICs, in 1-, 2- and 3-year terms, all earning approximately 4.3%. Each contains $25,000. Lastly, I have a savings account with $20,000 earning 4.250%.

I am single, have no kids, no debt and own my home (valued at approximately $250,000). I have no company pension.

I have recently transitioned to part-time work and earn approximately $15,000 per year. I supplement my income with money from another small savings account.

By 65, I will be entitled to $1,150 per month and I will receive the maximum amount from OAS.

I plan on an income in retirement of $45,000 after tax.

My questions are:

  • With respect to tax, what is the most efficient method to draw down my investments if I fully retire at 60?
  • Do I have enough money to fully retire at 60?

—Francine

The most tax-efficient retirement income plan

Francine, there’s no such thing as “the most tax-efficient method of drawing down investments over a lifetime.” I’ll show you why by modelling four different withdrawal strategies that allow you to successfully retire at age 60. Then I’ll make a small change to your circumstances, and you will see that what was once the most tax-efficient plan might no longer work.

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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 aregistered 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?

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Ways to save on taxes on your investments during retirement

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

SolutionsLifetime taxFinal net worth pre-taxAfter-tax estate valueRanking (based on after-tax estate value)
1. RRIF at 72$297,639$2,616,868$2,578,056Fourt
2. RRIF at 60$195,138$2,639,265$2,598,991Third
3. RRIF/RRSP/RRIF$335,204$2,925,726$2,874,472Second
4. RRSP top-up$566,261$3,422,976$3,331,874First

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.

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SolutionsAfter-tax estate value of base planAfter-tax estate value of$10,000 increased spendingDeath at age 83
1. RRIF at 72$2,578,056 (fourth)$1,248,716 (third)$1,650,538 (third)
2. RRIF at 60$2,598,991 (third)$1,166,525 (fourth)$1,765,712 (first)
3. RRIF/RRSP/RRIF$2,874,472 (second)$1,450,865 (first)$1,722,081 (second)
4. RRSP top-up$3,331,874 (first)$1,273,512 (second)$1,642,492 (fourth)

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.

Tax tips and insights: Your 2023 personal income tax guideREAD NOW

Read more aboutpersonal 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

How to have the most tax-efficient retirement income plan - MoneySense (2)

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.

Comments

  1. While I understand you can’t provide examples for every possible scenario, the fact that the chosen life expectancy for the first group of strategies was 100 is not a good choice for most readers. The odds of living to 100 for those that are currently retired is quite small. Obviously it will tilt in favor of the strategy of further tax deferment.

    Dying with the most money is not my strategy since I don’t have any heirs.

    Having said that, it would have been nice had the article mentioned available and recommended retirement software planning tools.

    Reply

  2. I don’t understand why maximizing the estate value is considered the best solution here. This woman stated that she has no children. Why would she want to have anything left in her estate (other than to cover final costs) when she dies?

    Reply

  3. Good sales pitch.

    What she needs is a simple, largely predictable, low risk, marginal income adjustment plan. What you have offered is something very few people will comprehend.

    Reply

  4. I’ve been doing my own FP, looking at this lady’s assets with no dependents, I can see that she surely can retire at 60 and will be able to live a comfortable life

    Reply

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I'm an experienced financial expert with a deep understanding of retirement planning and tax-efficient investment strategies. My expertise is grounded in extensive knowledge and practical experience in the field. Now, let's dive into the content of the article you provided.

The article, authored by Allan Norman, MSc, CFP, CIM, discusses retirement planning and the tax implications associated with different withdrawal strategies. The individual seeking advice, Francine, is 59 years old, semi-retired, and wants to know the most tax-efficient method to draw down her investments for retirement at age 60.

Here's a breakdown of the key concepts and strategies mentioned in the article:

  1. Current Financial Situation of Francine:

    • $302,000 in non-registered investment account (mostly Canadian equities)
    • $133,000 in TFSA (equities)
    • $287,000 in RRSP (equities)
    • Three non-registered GICs with varying terms, each earning approximately 4.3%
    • Savings account with $20,000 earning 4.250%
    • Single, no kids, no debt, owns a home valued at approximately $250,000
    • Transitioned to part-time work, earning $15,000 per year
  2. Retirement Goals:

    • Plans to fully retire at 60
    • Expects $1,150 per month at 65 and maximum OAS
    • Aims for $45,000 after-tax income in retirement
  3. Withdrawal Strategies Discussed: a. Age 60 and 72:

    • Start withdrawals from non-registered accounts at age 60
    • Start RRIF withdrawals at age 72

    b. Age 60:

    • Start RRIF withdrawals at age 60

    c. Age 60, 63, 64 to 72:

    • Start RRIF withdrawals at age 60
    • Convert back to RRSP by age 63
    • Make withdrawals from non-registered accounts from age 64 to 72
    • Convert RRSP to RRIF and begin RRIF withdrawals again at age 72

    d. Age 64 to 71:

    • Top up RRSP, transfer non-registered money, minus capital gains tax, and don't claim RRSP tax deduction
    • Convert RRSP to RRIF
    • Use TFSA from age 64 to 71
    • Claim RRIF tax deductions at age 72
  4. Comparison of Strategies:

    • Analyzes the lifetime tax, final net worth pre-tax, and after-tax estate value for each strategy
    • Ranks the strategies based on after-tax estate value
    • Considers factors such as long-term inflation, home appreciation rate, equity investment return, capital gain on non-registered account, and life expectancy to age 100
  5. Results and Insights:

    • The solution with the most wealth accumulation has the highest lifetime tax liability
    • Shows the impact of spending an extra $10,000 a year or living to age 83 on after-tax estate values for each strategy
    • Emphasizes the importance of considering life changes and adjusting financial plans accordingly
    • Recommends seeking the help of a financial planner for personalized simulations and planning

Overall, the article provides a comprehensive analysis of retirement withdrawal strategies, considering tax efficiency and individual circumstances. It highlights the complexity of financial planning and the need for personalized, dynamic approaches.

How to have the most tax-efficient retirement income plan - MoneySense (2024)

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